
Class. 
Book.. 



A 



Copyright N°_ 



COPYRIGHT DEPOSIT. 






CP. A. QUESTIONS 
AND ANSWERS 



By 

R. J. BENNETT, C. P. A. 

and 
FREDERICK W. MORTON 



1914 

International Accountants' Society 

Detroit, Michigan 



f/fV6 6/ 



Copyright 1914 
FREDERICK W. MORTON 



APR -8 1914 



U . 



©CI.A371273 



FOREWORD 



This book is designed for all persons engaged in the study or 
practice of accountancy, including students of accounting, book- 
keepers, auditors and professional accountants. It should be of 
special value, however, to candidates for C. P. A. examinations. 

The answers to questions on Theory of Accounts, Practical 
Accounting and Auditing comprise, with a few exceptions, my 
regular contributions to BUSINESS magazine for the five years 
from 1909 to 1913 inclusive — the exceptions referred to, and the 
Business Law questions, were prepared under the supervision of 
Mr. F. W. Morton, Director of The International Accountants' 
Society, and during those years Editor of said magazine. 

The practical accounting problems are of special interest, 
since they comprise some of the most important questions set by 
the Examining Boards of the United States and Canada; in fact 
they include some of the most difficult propositions to be met 
with in the active work of the professional accountant. The 
solutions and explanations, however, are, in many cases, more 
lengthy and exhaustive than would be required in an examination 
because in this way they provide not mere answers to questions, 
but complete lessons on the subjects under discussion. 

In presenting this publication it is hoped that it may be of 
service in answering many of the questions which are continually 
arising in the actual practice of business. Suggestions and frank 
criticisms of persons discovering the need of such, are cordially 
invited in order that improvements may be made in succeeding 
editions. 

R. J. BENNETT, C. P. A. 
Philadelphia, January 1, 1914. 



Contents 



Page 
MODEL C P. A. BILL 9 

COMPLETE SET OF QUESTIONS 15 

PART 1— THEORY OF ACCOUNTS 27 

Accounting Methods 42 

Annual Reports 34-35-36 

Bills Receivable Discounted 30 

Books of Account 31-40-41 

Classification of Accounts 28-42 

Consignments 41-43 

Corporation Books 31 

Debits and Credits 29 

Depreciation and Reserves 32-26-40 

Dividends 34-38 

Equilibrium of Ledgers 42 

Executors and Trustees 43 

Expenses and Disbursements 28 

Factors of Cost 33 

Goodwill and Its Treatment 32-38 

Income and Receipts 28 

Interest and Discounts 27 

Insurance Accounts 34-35-36 

Overhead Expense 33 

Statements and Balance Sheets 27-33 

PART 2— PRACTICAL ACCOUNTING 45 

Adjustments 110 

Amalgamations and Mergers 68-80-101-168-226 

Analysis of Accounts 45 

Annuities and Sinking Funds 47 

Blast Furnace Records 129 

Branch Accounts 219 

Building, and Loan Associations 180 

Consignments 149-221 

Consolidations 168 

Cotton Mill Accounting 233 

Corporation Accounting 74 

Executors and Trustees 185 

Fire Insurance Accounts 202-217 

Internal Revenue Reports 136 

Manufacturing and Trading Statements 118 

Mining Problems 191-211 

Miscellaneous Matters 211 

Partnership Relations 54-215-229 

Partnership to Corporation 68 



Procedure in Incorporating 71 

Public Service Corporations 145-212 

Receivership 223 

Stock Brokerage 158 

Syndicates and Holding Companies 151 

PART 3— AUDITING 245 

Accounts Receivable 258 

Bills and Accounts Payable 248 

Cash and Bank Accounts 247 

Certificate 251 

C. P. A. Examinations 245 

Corporation Reports 271 

Depreciation 258 

Discounts 350 

Fixed and Current Assets 249 

Imports 273 

Organization Expenses 258 

Pay Rolls 248 

Purchases and Sales 250 

Purposes of an Audit 246 

Reports 256 

Vouchers 279 

PART 4— COMMERCIAL LAW 279 

Agencies 279 

Authority of Agents; Classes of Agencies; Implied Agree- 
ments ; Principals to Contracts ; Responsibilities. 

Contracts 285 

Acceptance; Classes; Discharge; Elements necessary; Parties 
to ; Simple and Written. 

Corporations 290 

Advantages of; Capital Stock; Classes of; Organization; 
Powers ; Stockholders. 

Partnerships 300 

Classes; Dissolution; Formation; Powers; Relations. 

Various Business Law Problems 304 to 310 

Bailment; Bill of Sale; Common Carrier; Commercial Paper; 
Chattel Mortgage; Guarantee; Negotiable Instruments; 
Receivers; Stoppage in Transit; Trustees and Bankruptcy. 



Introductory 



IN THE SELECTION of these problems our endeavor has 
been to cover in a general way the nature of the questions 
which have been heretofore, and are now being set at the regular 
C. P. A. examinations in the various states. The explanations 
given are, in some cases, much broader than would ordinarily be 
required in an examination, but the object of this work is to give 
the reader not only a method of solving such problems, but 
enough real meat to be of permanent educational value to him. 
In fact, many of the solutions are designed to serve as complete 
lessons on the subjects treated. A model C. P. A. Bill is 
included for the purpose of giving the reader a general knowl- 
edge of the usual requirements of the State Laws, although the 
details may vary to a slight extent in the different states. 

In the arrangement of the various questions and answers it 
has seemed advisable to subdivide them into the four sections 
usually covered, i. e., Theory of Accounts, Practical Accounting, 
Auditing, and Commercial Law. A complete set of questions is 
first presented in order to indicate the scope of a C. P. A. exami- 
nation; these questions are then followed by answers to the 
questions on Theory of Accounts presented therein. 

Part two covers a series of selected Practical Accounting 
problems pertaining to different lines of business and requiring 
elucidation of the various exhibits, statements and adjustments 
used by accountants; these comprise Statistical Records, Rev- 
enue Reports, Profit and Loss Statements, Balance Sheets, Com- 
parative Statements, Consignment Accounts, Corporation En- 
tries, Insurance Adjustments, Mergers and Amalgamations, 
Bond Issues, etc. 

It is somewhat difficult to draw a distinct line of demarca- 
tion between Practical Accounting questions and those per- 
taining to Auditing, since the work of a professional Auditor 
necessarily involves and presupposes a thorough knowledge of 
practical accounting procedure, and it should be kept in mind 
that one of the most important duties of an auditor is to satisfy 
himself that correct accounting principles have been followed in 
the keeping of the accounts themselves, as well as in the prepara- 
tion of revenue and financial statements. The third section, 
therefore, not only covers a complete set of questions on Audit- 
ing as used in a recent C. P. A. examination, but goes into the 



practical end of the work by presenting illustrations of auditors* 
reports accompanied by the necessary statements and exhibits. 

The Commercial Law questions have been selected from 
those used in a great many different states, and while more or 
less general in their nature, can all be used as the basis of an- 
swers to questions on smilar subjects. The authors are indebted 
to Hon. Chas. C. Simons, L.L.B., author of Commercial Law 
Simplified for a great deal of help in the selection and arrange 
ment of the problems included in this fourth section. 

Public Accountants are endeavoring, through National and 
State Associations, to maintain high standards of efficiency in 
their work as well as in their professional conduct, and in recent 
years it has been the endeavor of examining boards in the vari- 
ous states to prepare questions of a uniformly high character in 
order to create not only a higher grade of accountants, but to 
inspire in the minds of the general public a greater degree of 
confidence in the accounting profession. 

To those who are earnestly striving to advance the already 
high standard and general efficiency of the profession of account- 
ancy, this book is respectfully dedicated. 



C. P. A. Questions and Answers 



Model C. P. A. Bill 



APPROVED AND RECOMMENDED BY THE EXECUTIVE BOARD 
OF THE FEDERATION OF SOCIETIES OF PUBLIC AC- 
COUNTANTS IN THE UNITED STATES OF AMERICA. 



THE STATE BOARD OF ACCOUNTANCY BILL. 

Title. 

A BILL for an Act to create a State Board of Accountancy and to 
prescribe its powers and duties, to provide for the examination of and 
issuance of certificates to qualified accountants, and to provide a penalty for 

violation of this Act. 

Note "a." — This heading is an adaptation ,of the headings of the Pennsylvania, Cali- 
fornia and Washington laws. The idea is to designate fully in the title what 
the scope of the bill is. Bills are very often read by their title only, and their 
disposition is based entirely upon the impression gained from the title. C. P. A. 
bills simply providing for the regulation of the profession have been referred 
to the wrong committee, for the reason that the Speaker of the House jumped 
at a wrong conclusion in regard to the bill because the title was not sufficiently 
explicit. This is an important point and should be care'fully handled. 

Section I. 

Be it enacted by the people of the State of 

represented in the General Assembly, that any citizen of the United States, 
or person who has duly declared his intention of becoming such citizen, 
having a place for the regular transaction of business as a professional 

accountant, in the State of. (see note "b"), being 

over the age of twenty-one years (see note "c"), of good moral character, 
being a graduate of a high school with a four years' course, or having had 
an equivalent education (see note "d"), who shall have received from the 
State Board of Accountancy (see note "e") a certificate of his qualifica- 
tions to practice as a public expert accountant as hereinafter provided, 
shall be styled and known as a Certified Public Accountant; and no other 
person shall assume such title, or use the abbreviation "C. P. A." or any 
other words or letters to indicate that the person using the same is such 
Certified Public Accountant. (See note "f".) 

Note "b." — It is regarded as an essential point that any person who is to receive a 
C. P. A. certificate should have a place for the regular transaction of business 
as a professional accountant within the State. 

The New York. Pennsylvania, Maryland and California laws provide for any 
person residing in the State, or having a place of business; this opens the door 

9 



C. P. A. QUESTIONS AND ANSWERS 

to persons who are not actually engaged in the practice of accountancy as a 
profession. 

The Illinois law requires that applicants for certificates shall be actually prac- 
ticing accountants and have a place of business within the State. This is re- 
garded as very necessary. 

Note "c." — It is necessary to fix the age limit at the legal age of 21 years. Some 
attempt has been made from time to time to fix the age limit at 25 years, but 
these efforts have not been successful. In the Washington Bill the age limit 
was set at 25 years, but was amended on the floor of the house on second read- 
ing to 19 years by a member who thought that any boy coming out of College 
ought immediately to be allowed to take this examination. Outside of Wash- 
ington all the laws passed have a 21-year age limit. 

Note "d." — The wording here is copied from the Illinois statute and specifically 
calls for a high school education, or the equivalent. 

The New York law does not specify that there shall be a preliminary educa- 
tion, but the Regents in framing rules for the examination of candidates have 
insisted on a high school graduation, or four years academic study or the 
equivalent. 

No laws except Illinois provide, in the statute, for any preliminary education, 
but it is regarded as desirable, even if not essential, that this provision should 
be embodied in the bills that will hereafter be promulgated, in order that a 
standard may be maintained which will be on a par with the older States. 

Applicants under the Waiver Clause do not have to comply with this re- 
quirement. 

Note "e." — The State Board of Accountancy is made the grantor of the Certificates. 
This is the law in California and Washington, while in Pennsylvania and Mary- 
land the Governor grants the certificates and in New York and Illinois the State 
University does this. 

It is a debatable point whether the granting power should be with the Gov- 
ernor or with the State Board of Accountancy. The less the Governor has to 
do with the matter the better it is in most States, as it is desirable to keep out 
politics as much as possible. 

Note "f." — The wording "note e" as far as the end of the first section is identical 
with the New York, Pennsylvania, Maryland and Illinois laws, and is practically 
the same as California and Washington. This is the vital part of the whole 
bill and should be uniform in all States. It is recommended that the exact 
wording as already established in the four principal States be adhered to. 

Section II. 

The Governor shall, within 30 days after the passage of this Act, ap- 
point three persons (see note "g")> wno shall be skilled in the practice of 
accounting and actively engaged therein on their own account in the State 

of to constitute and serve as a State Board of 

Accountancy (see note "h"). The members of such Board shall hold office 
for three years and until their successors are appointed and have qualified, 
except that one of the members of the State Board of Accountancy, first 
to be appointed under this Act, shall hold office for one year, and one for 
two years. (See note "i".) Upon the expiration of each of said terms 
an examiner shall be appointed for the term of three years, and after the 
year one thousand nine hundred and the examiners shall be ap- 
pointed from the holders of certificates issued under this Act. (See 
note "j".) 

Note "g." — It is recommended very strongly that the law should call for a Board 
of three examiners and no more, for the reason that three persons are found 
to be sufficient and a larger number is difficult to secure and more difficult to 
deal with. In New York and Illinois there are three Examiners; in Maryland 
the Board is composed of four persons, and in Pennsylvania, California and 

10 



MODEL C. P. A. BILL 

Washington of five persons. It is very seldom that more than three persons 
can be found to take sufficient interest in the workings of such a law as this 
to make their services of any value at all. 

N ote "h "—It is desirable that the examiners should be chosen from men who have 
been actively engaged in the State as public accountants for a period of years. 
In Pennsylvania, of the five examiners three must have been in practice as 
public accountants for at least five years. In Maryland two of the examiners 
must be selected from a list of those names proposed by the Maryland Associa- 
tion of Public Accountants. In Illinois the University appoints the three ex- 
aminers, two of whom "shall be skilled in the practice of accounting and actively 
engaged therein in the State." In California the Governor appoints five per- 
sons, "at least three of whom shall be competent and skilled public accountans, 
or shall have been practicing as such in this State for not less than five consecu- 
tive years." Washington has the same as California, except that three years' 
practice is sufficient. 

Note "}." — The plan here suggested is that adopted in other States and provides for 
the continuity of the Board, which is very essential. 

Note "j." — In some of the C. P. A. Laws a great deal more is said in regard to the 
examining Board, especially in Pennsylvania and Maryland, but it is believed 
that the provisions contained in the above section are ample to cover the 
essentials. 

Section III. 

The State Board of Accountancy shall make rules for conducting the 
examinations to be held under this Act. Said examinations shall be held 
at least once a year. The examinations shall be in "Theory of Accounts," 
"Practical Accounting," "Auditing" and "Commercial Law as affecting 
accountancy." 

Note "k." — The essential feature in the above section is the wording of the branches 
of the examination. These are the same in every law that has been passed, 
except that the words "Commercial Law" stand alone outside of Illinois, the 
words "as affecting accountancy" having been added in drawing up the Illinois 
law, so as to avoid any antagonism from the legal fraternity; the idea being 
that members of the legislature, which is largely made up of lawyers, would 
resent the appointment of a Board of accountants to hold examinations in law. 
This is thought to be a god point and, as the words interpolated in Illinois do 
not injure the section but rather help define it, it is recommended that they 
should be generally adopted. 

Section IV. 

The State Board of Accountancy shall charge for the examination and 
certificate provided for in this Act, a fee of $25.00, to meet the expenses of 
such examinations. This fee shall be payable by the applicant at the time 
of filing his application. (See note "1".) The State Board of Accountancy 
shall report annually the number of certificates and the receipts and 
expenses under this Act to the Governor. (See note "m".) 

Out of the funds collected under this Act shall be paid the actual ex- 
penses of the State Board of Accountancy in conducting such examinations 
and issuing such certificates, and an amount not exceeding $10 per day to 
each member of said Board, for the time actually expended in pursuance 
of the duties imposed upon them by this Act, provided that no expenses 
incurred under this Act shall be a charge upon the funds of the State. 
(See note "n".) 

11 



C. P. A. QUESTIONS AND ANSWERS 

Note "1." — The only essential feature in this section is that the fee to be charged 
for the examination and certificate shall be the sum of $25. This is the universal 
fee charged in all States, although some of the laws read that the Board shall 
charge for examination and certificate such fee as may be necessary to meet 
the actual expenses of such examination and issuing of such certificates. 
It is thought better that the fee of $25 should be specified in the Act. 

Note "m." — It is immaterial to the Federation whether the State Board of Account- 
ancy reports to the Governor or to the State Comptroller, or does not report at 
all; also as to what facts are reported in this way. 

The New York law compels the Regents of the University to report annually 
to the State Comptroller, and pay the balance of receipts over expenditures to 
the State Treasurer. The Pennsylvania law says that any surplus over and 
above expenses shall be turned "into the Treasury of the Commonwealth," also 
that the results of the examinations shall be certified to the Governor. 

The Maryland law provides that the Board of Examiners shall report to the 
State Comptroller and pay the surplus into the State Treasury. The Illinois 
law allows the University to collect the fees, pay the expenses and keep the 
net revenue, if any. t 

In this connection it must be borne in mind that only during the first year 
after the passage of the Act is any large amount of income likely to arise. This 
is in respect to the large number of applications that will probably be made 
under the Waiver Clause. In subsequent years, when the income is very little, 
the expenses of holding the examinations are much more and the income is 
likely to be short. 

Note "n." — It is desirable to establish, in the face of the bill, what the remuneration 
to be paid to the members of the State Board of Accountancy shall be, and $10 
per diem is the rate that has usually been established. In California and Wash- 
ington the remuneration is only $5 a day. 

Section V. 

The State Board of Accountancy may, in its discretion, register the 
certificate of any Certified Public Accountant who is the lawful holder of 
a C. P. A. certificate issued under the law of another State, and may issue 
to such Certified Public Accountant a certificate of registration, which 
certificate shall entitle the holder to practice as such Certified Public 
Accountant and to use the abbreviation C. P. A. in this State. Provided, 
however, that such other State extends similar privileges to Certified Public 
Accountants of this State. The State Board of Accountancy may charge 
for such certificate of registration such fee as may be necessary to meet 
the expenses of such registration. 

Note "o." — This is an important section and a new one. It is recommended by the 
Federation and has for its object the free intercourse of C. P. A.'s between 
States under certain carefully arranged conditions as to registration. 

Seection VI. 

The State Board of Accountancy may, in its discretion waive the 
examination of any person possessing the qualifications mentioned in 
Section I. of this Act who shall have been for more than one year before 
the passage of this Act practicing in this State on his own account as a 
public accountant and who shall apply in writing to said Board for such 
certificate within one year after the passage of this Act. (See note "p".) 

Note "p." — The above is the Waiver Clause and is the most important in the whole 
bill and open to the most discussion. The wording used above is quoted from 
the New York law, subject to some change in detail. 

12 



MODEL C. P. A. BILL 

In New York the face of the law calls for one year's previous practice, but 
when the Regents of the University made rules for holding the examinations 
they insisted upon five years previous experience and this caused a great deal 
of trouble. Subsequently, another bill was passed reopening the Waiver Clause 
and under this second bill everybody who had been practicing as an accountant 
for one year prior to 1896 and who made application before September 1st, 1901, 
was admitted under the Waiver Clause. 

In Pennsylvania the Waiver Clause admits an accountant who has had 
three years previous practice on his own account. In Maryland a person must 
have been practicing at the time of the passage of the Act, but he need not 
have had any years of practice. 

In Illinois "five consecutive years previous experience as a public account- 
ant" is demanded. In California "more than three years" previous experience 
is required. In Washington previous experience is not stipulated, any resident 
of the State being available at the discretion of the Board. 

Section VII. 

The State Board of Accountancy may revoke any certificate issued 
under this Act, or may cancel the registration of any certificate registered 
under this Act, for unprofessional conduct of the holder of such certificate, 
or other sufficient cause, provided that written notice shall have been mailed 
to the holder of such certificate twenty days before any hearing thereon, 
stating the cause for such contemplated action and appointing a day for a 
full hearing thereon, by the State Board of Accountancy, and provided 
further that no certificate, issued under this Act, shall be revoked until 
such hearing shall have been held. (See note "q".) 

Note "q." — This section is long and appears complex. It is adapted from the Illi- 
nois law, amended so as to embrace the cancellation of registration of certifi- 
cates issued by other States. If this section ever becomes operative it is most 
essential that the wording should be very explicit. In the event that a C. P. A. 
of an outside State, having secured registration under this Act, should be guilty 
of unprofessional conduct a means must be provided by which he may be dealt 
with by the State Board of Accountancy. 

Section VIII. 

If any person shall represent himself to the public as having received a 
certificate as provided in this Act, or shall assume to practice as a Certified 
Public Accountant, or use the abbreviation C. P. A. or any similar words 
or letters to indicate that the person using the same is a Certified Public 
Accountant, without having received such C. P. A. certificate, or without 
having received a registration certificate, as provided in this Act, or if any 
person having received any certificate, as provided in this Act, and having 
thereafter lost such certificate by revocation as herein provided, shall con- 
tinue to practice as a Certified Public Accountant, he shall be deemed 
guilty of a misdemeanor and upon conviction thereof shall be fined a sum 
not exceeding two hundred ($200.00) dollars for each offense. 

Note "r." — This Penalty Clause is strongly, recommended as being definite and 
specific. In New York the Penalty Clause reads, "Any violation of this act 
shall be a misdemeanor." 

The Maryland law provides a penalty of $200 or six months in jail for any 
one convicted of violating the provisions of the Act. The California law copies 
New York, and the Washington law provides for a fine of $100 for violation 
of the Act. 

13 



Complete Set of Questions 



EXAMINATION IN THEORY OF ACCOUNTS. 

Time limit, four hours. 

Answer fourteen (14) questions, but no more. Questions 5 or 7 elect- 
ive, balance obligatory. Do not repeat the questions, but designate by 
respective numbers. Your mark will be based on one-half of total points, 
shown opposite each question, for correct answers, to which will be added 
such as you may obtain of a maximum 25 points for "form, expression and 
knowledge evidenced of the principles involved." 

1. Name any business with which you are familiar and state how you 
would instruct your client to charge interest on : 

(a) Money borrowed to build additions to the plant. 

(b) Money borrowed to pay current bills. 

2. Following up your answers to the above, what effect will such 
instructions have on the annual Statement of Operations and the Con- 
densed Balance Sheet in the respective cases of (a), (b). 

3. What, if any, is the difference between the Income and Receipts 
of a business? 

4. What, if any, is the difference between Expenses and Disburse- 
ments? 

5. (a) How would you arrange the following accounts in the Con- 
densed Balance Sheet of the E. and F. Corporation? 

E and F Corporation First Mortgage Bonds issued; Funds advanced for traveling 
expenses; Addition to Mill No. 7, Plant No. 1; Advances to employes on current pay- 
roll; Real Estate, Buildings and Equipment, Plant No. 2; E. and F. Corp. Bonds Un- 
sold; Furniture and Fixtures, Plant No. 1; Accounts Payable, secured by a lien on 
machinery; Accounts Payable, Sundry unsecured creditors; Box and Veneer Plant, 
Plant No. 1; Store and Office Fixtures, Plant No. 2; Sawmill and Dry Kilns, Plant 
No. 3; Electric Plant, Plant No. 1; Furniture and Fixtures, N. Y. office; Notes Pay- 
able, secured; Customers' Accounts, receivable; Depreciation Reserve Account; 
Logs, Boxes and Veneer, Plant No. 1; Interest paid in advance; Wharves and Ware- 
houses, Plant No. 3; Freight Unpaid; Capital Stock, E and F Corp.; Notes Receiv- 
able; Real Estate, Plant No. 1; Undivided Profits; Notes Payable; Boxes, Lumber, 
etc., Plant No. 2; Lumberman's Marine Insurance Co., Stock; Sinking Fund In- 
vested; A. C. L. R. R. Co., Bonds; Timber Lands and Stumpage; Cash, Plant No. 
1; Teams and Carts; Lumber and Logs, Plant No. 3; Cash, Plant No. 3; Cash, Plant 
No. 2; Insurance Premiums Unearned; Dividends Unpaid; Surplus; Real Estate, 
Plant No. 3; Cash, N. Y. Office; N. & W. R. R. Co., Bonds; Current Profits; Pay- 
rolls, Due an*. Unpaid. 

(b) State your reason for the arrangement you have made in 
answer to the above questions. 

(c) Which items would you designate as Current or Quick 

Assets? 

6. (a) What may the placing of an item on the debit side of a ledger 
account represent? 

(b) What may the placing of an item on the credit side of the 
ledger account represent? 

15 



C. P. A. QUESTIONS AND ANSWERS 

7. In looking over the accounts of a firm you find that practically all 
of their Accounts Receivable had been paid, a large part of the settlements 
being by customers' notes. The Bills Receivable Account was in balance, 
but reference to the Bills Receivable Record showed that about $27,000 
was being carried by the banks on this company's endorsement. State 
fully the method you would suggest to the proprietor that his books should 
at all times - show the entries necessary from the first receipt of a note until 
it was finally paid, when : 

(a) It is paid by the maker at maturity. 

(b) It is partially paid and a new note given for the balance. 

(c) It is protested for non-payment at maturity. 

(d) It is taken up, with a new note of the same amount, with 
interest added, at maturity. 

8. (a) What books of record are necessary, in addition to the books 
of account, for a corporation existing under the laws of this state? 
(b) Of what value would such records be at the time of an audit? 

9. (a) What is the purpose of a depreciation account? 

(b) Give an illustration showing the entries needed to bring it 
into the ledger accounts. 

10. What may goodwill represent? 

11. What constitutes Manufacturing cost? 

12. What constitutes selling cost? 

13. What expenses would you classify as Fixed or Overhead ? 

14. What is a Balance Sheet? 

15. How does it differ from a Statement of Assets and Liabilities? 



EXAMINATION IN PRACTICAL ACCOUNTING. 
Time limit, four hours. 

QUESTION NO. 1. 

The Fairfax Foundry Company, a Virginia corporation, owns and 
operates an iron foundry, a valve and hydrant shop and a machine shop, 
and also owns some undeveloped ore lands. Three-fifths of the capital 
stock (which is all common) is owned by A. Pluto Kratt and other cap- 
italists, while the balance is owned by A. B. Etterman. The business was, 
at one time, very profitable, but the net earnings have declined steadily 
since 1905, until, in 1910, the result of operation showed a loss. The busi- 
ness during the early months of 1911 being still more unsatisfactory, over- 
tures were made by Etterman to purchase enough additional stock to give 
him control, with a view to changing the management. Etterman offered 
$70.00 a share for 1,000 shares, or more; but Kratz and his associates de- 
manded $90.00 per share. 

At this point you are called in by Etterman to audit the Company's 
books from January 1, 1911, to September 30, 1911; to verify the cost of 
plant and ore properties, and to set a valuation on the accounts receivable. 
You find that $2,909.95 of the latter are worthless and that, in 1905, Plant 
Account was inflated $200,000 to cover an issue of watered stock. Other- 
wise the books correctly show the Company's condition, as follows: 

16 



COMPLETE SET OF QUESTIONS 

Trial Balance, September 30, 1911. 

Cash $ 22,034 32 

Accounts Receivable (good) .' . . . 132,413 82 

Accounts Receivable (uncollectible) 2,909 95 

Plant and Equipment 732,480 27 

Reserve for Plant Depreciation $ 123,275 00 

Ore Properties 55,017 09 

Bills Payable 165,652 37 

Accounts Payable ' 40,710 29 

Capital Stock 500,000 00 

Surplus 272,605 18 

Inventory, January 1, 1911 78,831.68 

Foundry Sales 507,985 84 

A^alve and Hydrant Sales 77,534 65 

Machine Shop Sales 56,385 11 

Foundry Material and Freight 396,413 57 

Valve and Hydrant Material and Freight 63,326 87 

Machine Shop Material and Freight 16,779 95 

Foundry Labor 102,139 37 

Valve and Hydrant Labor 12,826 21 

Machine Shop Labor 26,617 36 

Foundry Expense 5,766 04 

Valve and Hydrant Expense 2,893 31 

Machine Shop Expense 1,667 26 

Foundry Commissions 2,388 05 

Valve and Hydrant Commissions 862 14 

Machine Shop Commissions 252 58 

Foundry Repairs and Renewals 32,568 23 

Valve and Hydrant Repairs and Renewals 6,067 80 

Machine Shop Repairs and Renewals 3,229 82 

General Salaries 25,376 08 

General Expense 9,672 51 

Legal Expense 693 04 

Taxes 1,957 50 

Insurance 3,195 90 

Advertising 176 15 

Interest 5,591 57 



. $1,744,148 44 $1,744,148 44 

Analysis of Inventory of January 1, 1911 : 
Foundry — 

Raw material and goods in process $ 29,322 11 

Finished goods 17,387 52 

Valve and Hydrant — 

Raw material and goods in process 8,690 20 

Finished goods ,. 13,839 45 

Machine Shop — ■ 

Raw material and goods in process 7,899 73 

Finished goods ' 1,692 67 

17 



C. P. A. QUESTIONS AND ANSWERS 

Inventories, Prepayments and Accruals, September 30, 1911 (not yet 
entered) : 

Inventory : 

Foundry — 

Raw material and goods in process $ 36,490 62 

Finished goods 31,414 36 

Valve and Hydrant — 

Raw material and goods in process 13,562 95 

Finished goods 20,389 61 

Machine Shop — 

Raw material and goods in process 9,603 82 

Finished goods 1,713 65 

$113,175 01 

Unexpired Insurance ; $ 482 68 

Prepaid Taxes $ 387 60 

Accrued Wages: 

Foundry $ 3,084 26 

Valve and Hydrant Shop 514 03 

Machine Shop 1,542 09 

$ 5,140 38 

Unpaid Freight: 

Foundry $ 256 78 

Valve and Hydrant Shop 28 25 

Machine Shop 9 45 

$ 294 48 

Prepare Manufacturing, Trading, and Profit & Loss Accounts for the 
nine months ended September 30, 1911, and Balance Sheet showing the 
Company's condition (based on Ledger value of plant) at that date. Em- 
body them in a report to your client, with such explanation and comment 
as you think proper. 

A few days after the submission of your report, a compromise is 
effected on the following basis : 

Kratz, et al, sell their $300,000 common stock at 90, taking in exchange 
therefor: 

$200,000 new 6 per cent preferred stock, at par $200,000 00 

The Company's ore lands at a valuation of 60,000 00 

Cash 10,000 00 

$270,000 00 
18 



COMPLETE SET OF QUESTIONS 

Etterman buys $100,000 common stock, at 70 $ 70,000 00 

The Company receives cash $ 60,000 00 

For ore lands carried at 55,017 09 

Realizing a profit of $ 4,982 91 



The Company's counsel directs that the deal be consummated in the 
following manner : 

Kratz, et al, to deliver to the Company $200,000 common stock (to be 
retired) in exchange for $200,000 new six per cent preferred stock. 

Etterman to pay the Company $60,000, in return for which the Com- 
pany will issue to Kratz, et al, a deed for the ore lands. 

Etterman to pay Kratz, et al, $10,000 and receive from them the re- 
maining $100,000 of their common stock. 

Draft the Journal and Cash Book entries necessary to record such of 
the above transactions as should appear in the books of account. 



QUESTION NO. 2. 

The stockholders of A Company and B Company have decided to 
form a new corporation (C Company), which is to take over all the assets 
and assume all the liabilities of both the old companies. The holders of 
Preferred Stock of the old companies are to receive an equal number of 
shares of Preferred Stock of the new company. The holders of Common 
Stock are to take Common Stock of the new company at par, to an amount 
equal to the book value of their holdings in the old companies. Before 
determining the book value of the old Common Stock, however, an amount 
equal to two per cent of the Accounts and Bills Receivable of each com- 
pany is to be deducted from its Surplus and carried to a Reserve Account, 
to provide for contingent losses. 

The condition of the old companies is as follows: 

Assets. 

A Co. B Co. 

Cash $ 20,231 74 $ 43,123 81 

Accounts Receivable 296,059 14 759,911 06 

Bills Receivable 8,245 08 35,342 09 

Merchandise Inventory 212,636 81 393,937 46 

Land and Buildings 42,689 42 174,156 97 

Machinery 31,222 97 69,160 35 

Furniture and Fixtures 2,500 00 5,000 00 

Investments 8.000 00 4,550 00 

Prepaid Taxes and Insurance 1,014 20 2,346 48 

$622,599 36 $1,487,528 22 
19 



C. P. A. QUESTIONS AND ANSWERS 

Liabilities. 

Accounts Payable $204,669 18 $ 244,168 44 

Bills Payable 86,844 10 227,454 72 

Preferred Stock 100,000 00 200,000 00 

Common Stock 150,000 00 400,000 00 

Surplus 81,086 08 415,905 06 

$622,599 36 $1,487,528 22 

The holders of Common Stock in the old companies are as follows : 

A Co. B Co. 

Smith i 400 shares 1,200 shares 

Jones 300 shares 

Brown 1 50 shares 

Black 50 shares 2,000 shares 

White 600 shares 

Green 500 shares 

Henry 300 shares 

1,500 shares 4,000 shares 

Draft the Journal entries necessary to create the Reserve Accounts in 
the books of each of the old companies. 

Show the final book value of Common Stock of each of the old com- 
panies. 

Show the number of shares of Common Stock of the new company 
to be received by each of the holders of Common Stock of the old com- 
panies. 

Prepare a Balance Sheet, showing condition of C Company, after taking- 
over the assets and liabilities of the old companies. 



QUESTION NO. 3. 

On January 1, 1911, the condition of the Goodrich Manufacturing 
Company was as follows : 

Assets. 

Cash $ 7,962 42 

Accounts Receivable 81 ,249 52 

Bills Receivable 6,244 73 

Merchandise Inventory 55,81 1 88 

Machinery 14,551 21 

Furniture and Fixtures 2,168 75 

Unexpired Insurance 41121 

$168,399 72 
20 



COMPLETE SET OF QUESTIONS 

Liabilities. 

Accounts Payable $ 48,343 90 

Bills Payable 30,000 00 $ 78,343 90 

Capital Stock $ 60,000 00 

Surplus 30,055 82 90,055 82 

$168,399 72 



On the night of January 27, 1911, they were burned out. The mer- 
chandise, furniture and fixtures were a total loss, and the salvage in the 
machinery was valued at $4,000. 

Their Ledger, at the close of business on January 27, 1911, showed 
the following balances : 

Dr. Cr. 

Capital Stock $ 60,000 00 

Surplus 30,055 82 

Cash $ 6,182 49 

Accounts Receivable 70,870 36 

Bills Receivable 7,874 48 

Accounts Payable 46,504 56 

Bills Payable " 25,000 00 

Machinery 14,701 21 

Furniture and Fixtures , 2,208 75 

Inventory, January 1, 1911 55,811 88' 

Dividends 6,000 00 

Sales 26,161 87 

Merchandise Purchases 14,080 43 

Labor 5,996 17 

Power, Light and Heat 342 72 

Factory Expenses 742 55 

Office Salaries 1,650 00 

Office Expenses 98 62 

Selling Expenses 751 38 

Insurance 411 21 



$187,722 25 $187,722 25 



The books show that ten per cent has been written off from Machinery 
and Furniture and Fixtures on December 31st of each year, since the busi- 
ness was started ; also, that the Gross Profit on Sales has been very uniform 
and has averaged twenty per cent. 

The insurance carried, covering Merchandise, Machinery, Furniture 
and Fixtures, was $70,000. 

Prepare a statement showing the amount of the Goodrich Manufactur- 
ing Company's claim against the insurance company, assuming that the 
former retains the damaged machinery at the appraised value of $4,000. 

21 



C. P. A. QUESTIONS AND ANSWERS 

QUESTIONS 4 & 5. 

Time limit, three and one-half hours. 
4. Charles Cabell, William West and Henry Hart form a partnership 
for the purpose of engaging in the manufacture of plug and smoking 
tobaccos. Cabell invests $75,000, West $50,000, and Hart $25,000. Profits 
or losses are to be shared as follows: Cabell 1-2, West 1-3, and Hart 1-6. 
Interest is not to be allowed on capital, nor charged on withdrawals, but 
each partner's withdrawals during any one year are not to exceed one- 
tenth of his capital in the business. 

At the end of their first fiscal year their Ledger shows the following 
balances : 

Dr. Cr. 

Charles Cabell, Capital Account $ 75,000 00 

William West, Capital Account 50,000 00 

Henry Hart, Capital Account 25,000 00 

Charles Cabell, Withdrawal Account 5,842 17 - 

William West, Withdrawal Account 4,179 16 

Henry Hart, Withdrawal Account 2,033 88 

Machinery 11,026 92 

Land and Buildings . 25,000 00 

Furniture and Fixtures 1,866 13 

Cash 8,730 45 

Accounts Receivable „ 131,244 49 

Bills Receivable 4,999 97 

Accounts Payable 6,138 16 

Bills Payable 118,060 62 

Sales— Plug Tobacco 249,472 43 

Smoking Tobacco 61,882 25 

Stems 84195 

Leaf Tobacco 200,044 57 

Licorice and Flavoring 21,918 66 

Boxes 8,572 10 

Labor 25,182 47 

Stamps 48,476 24 

Power, Light and Heat 3,571 60 

Factory Expense 7,380 55 

Hauling 1,451 30 

Salaries ' 12,443 71 

Office Expense 4,228 87 

Insurance 1,682 90 

Interest and Discount 9,164 47 

Postage 1,211 97 

Attorneys' Fees 769 25 

Salesmen's Salaries, Commissions, etc 38,795 15 

Advertising 5,149 09 

Lost Accounts 1,429 34 



$586,395 41 $586,395 41 
22 



COMPLETE SET OF QUESTIONS 

Ten per cent is to be charged off from Machinery Account, to cover 
depreciation, and a Reserve equal to 2 per cent of the Accounts and Bills 
Receivable is to be created, to cover possible undeveloped losses. 

The unexpired insurance premiums amount to $331.11. 

Inventories are as follows : ; ; i i 

Finished Goods $ 38,189,4? 

Goods in Process 11,209 35 

Leaf Tobacco ' 49,128 98 

Licorice and Flavoring 1,511 68 

Boxes 1,073 04 

Stems 43 31 

A 

Draft Journal entries for closing the books (separating Profit & Loss 
Account into Manufacturing, Trading, and Profit & Loss Divisions) and 
prepare Balance Sheet. 

5. Henry Dearborn died, leaving one daughter (Virginia) and tw© 
sons (Robert and Thomas), all of whom are of age. The will directs that 
the estate be distributed in equal shares. The estate consists of: 

Cash in bank $ 3,000 00 

$10,000 Southern Ry. 4s, appraised at 10,000 00 

$5,000 Pennsylvania R. R. 3^s, appraised at 4,800 00 

Furniture, appraisal at 800 00 

Horse, Carriage and Harness, appraised at 500 00 

The executor has disposed of the above as follows : 

Southern 4s, sold for $10,500 00 

P. R. R. 3y 2 s, sold for 4,750 00 

Furniture, sold for 1,050 00 

Horse, Carriage and Harness, sold for 375 00 

Interest has been collected: 

On Southern Ry. Bonds $ 450 00 

On Pennsylvania R. R. Bonds 87 50 

On bank balances 72 00 

The executor has paid : 

Funeral expenses $ 500 00 

Decedent's debts 800 00 

Counsel fees, etc 325 00 

Safe deposit box rent 10 00 

Virginia Dearborn, account distribution 1,000 00 

Robert Dearborn, account distribution 1,000 00 

Thomas Dearborn, account distribution 1,000 00 

State executor's first and final account, with distribution account 
attached. 



EXAMINATION IN AUDITING. 

Time limit, three and one-half hours. 

Answer eight (8) question's, but no more. Questions 4 or 5 elect- 
ive, balance obligatory. Do not repeat the questions, but designate by 
respective numbers. Your mark will be based on one-half of total points, 
shown opposite each question, for correct answers, to which will be added 

23 



C. P. A. QUESTIONS AND ANSWERS 

such as you may obtain of a maximum 25 points for "fgrm, expression and 
knowledge evidenced of the principle involved." 

1. Describe fully: (a) Capital expenditure; (a-2) Illustrate; (b) 
Revenue Expenditure; (b-2) Illustrate; (c) Capital Receipts; (c-2) Illus- 
trate; (d) Revenue; (d-2) Illustrate; (e) Quick or Current Assets; (e-2) 
Illustrate. 

2. What is the purpose of a Realization Account or Statement? 

(b) When is such necessary? 

3. A & Co. acquire the plants of B, C, D, and E, assuming their 
Assets and Liabilities at book values, the purchase price being one-half 
of the amount shown by the surplus account of each. Without going into 
lengthy detail, but just considering the three items, Assets, Liabilities, and 
Surplus, what entries would you make to set up these accounts in the 
ledger of A & Co.? 

4. If it was found, after acquiring the above plants, that large 
amounts had to be expended in improvements to bring the plants up to 
their rated efficiency: 

(a) Give a concise, but full, explanation of how you would clas- 
sify such expenditures, naming the accounts you would debi^ and,.', 
credit. 

(b) Would such expenditures have any relation to the 50 per 
cent equity A & Co. were supposed to have purchased? 

(c) State your reasons for the preceding answer. 

5. Describe in full the plan you would follow to audit the accounts 
of any business with which you are familiar, it being presumed that they 
use a General Ledger, Sales Ledger, Purchase Ledger, Distributive Sales 
Journal, Distributive Purchase Journal, Ordinary Journal and Cash Book. 
Funds are handled through two banks by regular form of check. 

6. State briefly, but clearly, the methods you employed to conduct 
an audit on which you have actually been engaged. 

7. (a) At what valuation should the inventory of any company be 
computed? 

(b) Explain fully. 

8. In computing manufacturing costs, covering a definite period of 
operation, should the quantity sold or the quantity produced be taken as 
the basis for ascertaining the average cost of each operation? 

(b) Explain. 

(c) Illustrate your argument. 

9. How would you audit a cash account, assuming that all the entries 
were shown by the Cash Book, or by the Cash Book and Bank Pass Book, 
or by the Cash Book, Bank Pass Book and Check Book, when all the 
receipts were checks and short term notes, and all the disbursements were 
by checks. 

24 



COMPLETE SET OF QUESTIONS 

EXAMINATION IN COMMERCIAL LAW. 

Time Limit Three and One-Half Hours. 

Answer ten (10) questions, but no more. Do not repeat questions, 
but write answers only, designating the questions by number. 

1. A purchases of B a lot and gives his negotiable note for $5,000, 
part of the purchase price. Before maturity of the note, B borrows of X 
National Bank $3,000, and deposits A's note as collateral security, without 
A's knowledge. A pays to B the $5,000 he owes, but B fails to repay the 
Bank the $3,000 when due, B having become insolvent. What is A's 
liability to the bank? 

2. A tells B that he wishes to give him $5,000, and hands him his 
negotiable note for the amount, payable six months after date. A fails to 
pay the note when due. State whether or not B can recover the amount. 
If B had endorsed it and had it discounted before maturity at the X 
National Bank, could the bank have recovered the amount of A, after 
non-payment at maturity? Give reasons. 

3. A, a merchant, gives B a deed of trust on his fixtures to secure a 
debt of $5,000, on January 1, 1911. On July 1, 1911, A makes an assign- 
ment of his stock of goods and fixtures to C, trustee, for the benefit of his 
creditors. A's liabilities aggregate $20,000, exclusive of B's debt, while 
his stock inventories $10,000 and his fixtures $3,000. C sells the stock and 
fixtures at 60 per cent of inventory ; and, after paying all costs and ex- 
penses, the sum of $7,000 is left for distribution. What amount is payable 
to B and what to the other creditors? 

4. How and under what circumstances may a wholesale merchant 
stop a shipment of goods sold to a retail merchant before delivery thereof 
to the purchaser, so as to prevent such delivery? What is the legal term 
used to designate such action? 

5. A is a dealer in wheat, of which he has several grades. B calls 
and inspects his stock, and, deciding to buy all of the X grade at a desig- 
nated price, pays A $5,000, the price ascertained by measuring, but says 
he will move it the next day. C calls and leaves an order for 1,000 bushels 
of Y grade wheat at $1.00 per bushel, to be delivered in ten days, and de- 
posits $500 on his contract. A has 3,000 bushels of that grade in bulk. 
That afternoon D, a creditor to whom A owes $10,000, levies an execution 
on all the wheat in A's possession, which inventories only $9,000. What 
are the rights of B, C, and D, respectively? 

6. The firm of A & Company (composed of A and B) is engaged in 
the lumber business. Without B's knowledge A buys, through a broker, 
American Tobacco Company stock, signing the firm's name to the contract. 
The stock declines and is sold at a loss. To what extent, if any, is the 
firm liable for that loss, and to what extent, if any, is B liable? 

7. B holds A's negotiable note for $5,000, dated January 1, 1905, 
and due January 1, 1906. It is not paid at maturity, and on July 1, 1910, 
B brings suit on the note. State whether or not recovery is barred by the 
statute of limitations. 

25 



C. P. A. QUESTIONS AND ANSWERS 

8. B holds A's negotiable note for $5,000, dated January 1, 1905, due 
January 1, 1906. Failing to pay the note at maturity, A makes a partial 
payment of $2,000 on March 1, 1911, and says to B: "I owe the balance 
and will pay it in sixty days." State whether or not the statute of limita- 
tions would bar a recovery in a suit brought by B on the note on May 1, 
1911. 

9. Distinguish brieflly between the legal form and effect of powers of 
attorney in the cases following, respectively : 

1. To an agent to sell and convey a tract of land. 2. To an agent 
to conduct a mercantile business. 

10. Distinguish between the following stocks issued by a corporation 
and state their order of preference, if any, in respect of periodical dividends; 
and, in case of liquidation, their order of preference in payment: 

1. Cumulative preferred stock. 2. Non-cumulative preferred 
stock. 3. Common stock. 

11. A corporation is to be voluntarily dissolved. Describe the neces- 
sary steps to accomplish this, without reference to its creditors: 

1. By action of the stockholders in annual meeting. 2. By action 
of the stockholders in called meeting. 3. Without a meeting of 
stockholders. 

12. Under the Virginia law, how many incorporators are required to 
apply for charters for the following classes of corporations, respectively : 

1. Manufacturing and commercial corporations. 2. Telegraph 
and telephone corporations. 3. Railroad corporations. 4. Cor- 
porations requiring no capital stock. 

13. A, B, and C wish to organize a corporation to have a paid-in 
capital of $100,000, for the purpose of developing and operating a water 
power for furnishing electricity for lighting and power. A owns the 
water power site, worth $30,000, in exchange for which he wishes stock 
of that amount; B, an engineer, has investigated and tested the power and 
is to superintend the construction of the plant, for all of which services 
A and C are willing for him to receive stock at a valuation of $20,000; 
while C is to pay cash for $50,000 of stock at par value. 

Describe how this may be done, if at all, and what, if anything, is to 
be reported to the State Corporation Commission. 

14. Name three of the classes of contracts which, under the statute 
of frauds, cannot be enforced unless in writing. 

15. A, the owner of an apartment house, dies intestate, July 10, 1911, 
leaving no widow, but a minor child and two minor grandchildren, children 
of a deceased son, and leaving enough personal property to pay his debts. 
Rents aggregating $1,000 were due by tenants at the time of his death, 
and rents aggregating $300 per month fell due thereafter. To whom does 
the apartment house descend and in what proportions? What rents, if 
any, is A's administrator entitled to collect ; and, if he should not collect 
any part of the rents, who should do so? 

26 



PART ONE 



Theory of Accounts. 



THE FOLLOWING answers refer to the questions in Theory of 
Accounts at the Virginia C. P. A. examination in October, 1911, 
and as the complete list is presented on the preceding pages it is 
not necessary to repeat the questions here, but a reference to them in study- 
ing these answers will be beneficial. 

1. Disposition of Interest on Money Borrowed. 

(a) Money borrowed to build additions to plant pertains entirely 
to capital, and the interest paid on said loans is considered a production 
expense and chargeable to manufacturing account as an item in the cost 
of production. It is true that many accountants regard such interest a 
charge against current earnings, yet we must not lose sight of the fact that 
the building is erected for manufacturing purposes and will in turn be 
charged off as a manufacturing cost in the form of depreciation ; conse- 
quently it seems just as reasonable to charge to manufacturing the other 
direct costs connected therewith. Rent of a leased factory would be 
entered as a manufacturing cost, therefore interest on the plant investment 
is analogous and equally entitled to the same treatment. 

(b) Interest on money borrowed to pay current bills may be con- 
sidered a general expense or part of the administration charges, and there- 
fore chargeable to profit and loss account. It might even be construed 
as a selling charge, the same as cash discounts to customers, and conse- 
quently chargeable to the trading account, but there is not much to com- 
mend such disposition. 

2. Effect on Statement of Operation and General Balance Sheet. 

(a) In the above case interest has been added as part of the produc- 
tion cost, thus giving the finished article a higher production value. It 
is thereby entered as a direct factory charge instead of merely a part of 
the general overhead expense. In any case the total cost of a given article 
will eventually be the same, whether interest on plant investment is 
charged as a manufacturing expense or a general expense, except that in 
the latter case it would be entered as a final charge and not as a direct 
expense. The statement of operation will not be materially changed by 
the handling of interest one way or the other as it lessens the profit on 
the article produced in either case. The balance sheet would likewise be 
unaffected by the disposition of interest as above outlined, except in cases 
where the goods were either unsold or undelivered. If interest is con- 
sidered a production cost the article will be inventoried at a higher pro- 
duction value than if it were a selling or administration expense. 

27 



C. P. A. QUESTIONS AND ANSWERS 

(b) This interest on money borrow for temporary use is clearly part 
of the selling expense, and therefore is logically a reduction of profits. It 
lessens the net profit from sales and has a corresponding effect on the 
balance sheet in reducing the available or working capital. 

3. Difference Between Income and Receipts. 

Income has reference to the earnings or revenue of a business for a 
given period without regard to its manner of payment, whether in cash 
or other property or whether still owing and payable at some future time. 
It is synonymous with profits and represents the gains from trading, etc. 

Receipts has reference entirely to cash received during the course of 
business regardless of whether it is capital, revenue or exchange. 

4. Difference Between Expenses and Disbursements. 

Expenses include all expenditures incident to running the business, 
regardless of whether they have been paid or are yet outstanding. The 
term in this case is used in contra-distinction to income. 

Disbursements indicate cash payments exclusively, though it is true 
that they may be all or partly for the settlement of expenses. It matters 
not for what purpose they are given, the intent is the same. 

5. Arrangement and Classification of Accounts. 
(a) CONDENSED BALANCE SHEET 



ASSETS 

Current Assets: 

Cash Plant No. 1 
Cash Plant No. 2 
Cash Plant No. 3 
Cash New York Office 
Advances to Employes 

Notes Receivable 

Customers' Accounts Receivable 
Funds advanced for traveling expenses 
Interest paid in advance 
Insurance Premiums Unearned 

Investments 

Sinking Fund Invested 
A. C. L. R. R. Co. Bonds 
N. & W. R. R. Co. Bonds 
Lumbermen's Marine Insurance Co 

Stock 
Treasury Bonds E. and F. Co. unsold 

Fixed Properties: 

Mills and Equipment, Plant No. 1 
Additions to above 
Real Estate, Plant No. 1 
Additions to above 

Real Estate. Buildings and Equipment, 
Plant No. 2 



LIABILITIES 

Current Liabilities: 

Freight Unpaid 
Payrolls Due and Unpaid 
Notes Payable, secured 
Accounts Payable, secured 
Notes Payable 
Accounts Payable 
Dividends Unpaid 

Fixed Liabilities: 

First Mortgage Bonds 
Depreciation Reserve Account 

Capital, Surplus, etc.: 

Capital Stock E. and F. Corporation 
Surplus 

Undivided Profits 
Current Profits 



28 



THEORY OF ACCOUNTS 

Real Estate, Plant No. 3 
Sawmill and Dry Kilns, Plant No. 3 
Wharves and Warehouses, Plant No. 3 
Box and Veneer Plant No. 1 
Electric Plant, Plant No. 1 

Timber Stock, etc.: 

Timber Lands and Stumpage 

Logs, Boxes and Veneer, Plant No. 1 

Boxes, Lumber, etc.. Plant No. 2 

Lumber and Logs, Plant No. 3 

Teams and Carts 

Furniture and Fixtures, New York 

Office 
Furniture and Fixtures, Plant No. 1 
Store and Office Fixtures, Plant No. 2 

(b) The above accounts are arranged in the balance sheet in a definite 
order, the same order being followed on both sides. 

The assets are arranged in their order of availability in case of need 
in the regular order of business begining with the assets most quickly 
available and ending with those the least. 

The liabilities are similarly arranged, begining with the current liabili- 
ties consisting of those requiring liquidation first, and ending with the 
fixed or those likely to be last in payment. 

It is true that some of the items shown above may be arranged in 
different places without in any way affecting the exhibit or the end desired, 
but in this arrangement a common classification is shown without splitting 
hairs over details. The opposite order is used by many accountants, be- 
ginning with the fixed and ending with the current, but in any case it is 
most desirable to have like items grouped together in the balance sheet. 

In answering this question the assets pertaining to the different plants 
could have been grouped under their respective headings, instead of being 
separated as shown above, but under that plan total assets of any par- 
ticular kind could not be readily determined. Indeed the question asks 
for a condensed balance sheet, but to do this would require that all assets 
of one kind be given in one amount. For instance all cash at home office 
and the different plants would be shown in one amount, with a similar 
arrangement for Real Estate and other assets. 

(c) The current or quick assets are those that are either available 
in the form of cash or can be readily converted into cash within a reason- 
able time, and are available for the payment of debts. If current assets 
are hypothecated as security for loans they cease for the time being to be 
quick or available. 

6. Significance of Debit and Credit Items. 

(a) There are four main classes of accounts, so that an entry of any 
kind will affect either of these classes. An amount placed on the debit side 
of a ledger account, then, represents according to the class it belongs to: 

An asset, thereby increasing the assets. 

An expense, thereby increasing the losses with a corresponding de- 
crease in the net profits. 

29 



C. P. A. QUESTIONS AND ANSWERS 

A production charge, thereby increasing the cost of producing a given 
article. 

A cancellation, being the settlement or cancellation of some liability. 
An entry of this kind has only a neutralizing effect without causing any 
corresponding change in the capital or profits. 

(b) An entry placed on the credit side of a ledger account represents, 
according to the class it belongs to : 

A liability, thereby increasing the liabilities. 

A revenue, thereby increasing the income or earnings of the business 
with a corresponding increase in the profits. Any increase in profits pro- 
duces, of course, a like increase of the capital. 

A cancellation, being the settlement of, or cancellation of some asset 
in the form of notes or accounts receivable. It may represent the disposal 
of some asset, and in case any profit is occasioned in connection therewith 
it is evident that both classes of accounts become affected. 

7. Entries for Bills Receivable Discounted. 

Notes under discount at the bank are always indorsed by the payee 
and he is liable on them until paid by the maker. This is known as a con- 
tingent liability, and in the present case where it amounts to $27,000, 
some plan should be adopted whereby details thereof will be constantly 
before the person liable thereon. In most cases they are shown only as a 
part of the regular report or as a foot-note to the monthly or yearly balance 
sheet, but in many others the following plan is used : 

(1) When the note is received the usual entry is made, 

Notes Receivable $1000.00 

To Customer $1000.00 

(2) When discounted at the bank this entry, 

Cash 990.00 

Discount 10.00 

To Notes Discounted 1000.00 

(a) When paid by the maker at maturity, 

Notes Discounted 1000.00 

To Notes Receivable 1000.00 

(b) When paid part cash and part by new note, 

(1) Notes Discounted 1000.00 

To Notes Receivable 1000.00 

(2) Customer 500.00 

To Cash 500.00 

(3) Notes Receivable 500.00 

To Customer 500.00 

(c) Protested at maturity for non-payment, fees added, 

(1) Customer .' 1001.50 

To Cash 1001.50 

(2) Notes Discounted 1000.00 

To Notes Receivable 1000.00 

30 



THEORY OF ACCOUNTS 

(d) Taken up with new note at maturity with interest added, 

(1) Customer 1000.00 

To Cash 1000.00 

(2) Notes Discounted 1000.00 

To Notes Receivable 1000.00 

(3) Notes Receivable 1010.00 

To Customer 1000.00 

To Interest 10.00 

On this plan the notes discounted account will exhibit at any time the 
liability on discounted notes, and the due date of each should be shown 
therein. In the above entries the renewal notes are not discounted yet, 
but when they are the usual process will be followed. The balance sheet 
may show aggregate notes receivable among the assets, and notes dis- 
counted as a deduction from the notes receivable. Since the above plan 
requires so many journal entries it may be advisable to provide columns 
in the notes receivable book for exhibiting the notes under discount and 
all other information pertaining to them. 

8. Books Necessary for a Corporation. 

(a) State incorporation laws are usually conspicuous for their silence in 
the matter of books of record, and the State of Virginia is no exception to 
the rule. A transfer book is required, however, and a register of stock- 
holders' names and addresses. By-laws and stock certificates are also a 
necessity, and the minute book is a prerequisite. New York requires cor- 
rect books of account for all its business transactions ; a stock book con- 
taining names and addresses of stockholders with shares held, when they 
become owners thereof, and amount paid thereon ; a transfer book to 
accompany the stock book. By-laws and stock certificates are specified 
also. The stock book shall be open daily during at least three hours for 
the inspection of stockholders and judgment creditors, who may take ex- 
tracts therefrom. 

Pennsylvania requires that "the secretary or clerk is charged with 
keeping a record of notes of the corporation and minutes of its transac- 
tions." New Jersey requires transfer book in which the transfer of stock 
shall be registered, stock books with names, etc., of stockholders, record 
of all minutes of stockholders and directors. 

Of course every corporation requires its books of account the same as 
an individual trader or firm, but in addition to these the following are 
known as the books of record, including the official documents : Articles 
of incorporation, subscription blanks, by-laws, minute books, stock certifi- 
cate book, stock record, transfer book, transfer certificates, register of 
directors, dividend record, etc. 

(b) The books of record are of value to the auditor in determining 
the powers and obligations of the corporation and in satisfying himself 
that the directors have acted in accordance therewith and as required by 
the company's by-laws. 

The stock record and transfer books, and the stock certificate book 
will show the amount of stock outstanding, which should agree with the 
capital stock account. 

31 



C. P. A. QUESTIONS AND ANSWERS 

The charter and by-laws are required in determining the requirements 
of the stockholders, with which the directors must comply in every par- 
ticular. 

The minute book is of importance in showing the acts of the stock- 
holders and directors, as it contains the official requirements of these two 
bodies, all of which must be observed by the officers and employes. 

The transfer book and certificates of transfer show the various trans- 
fers and the authority for making them. 

9. Reserves and Depreciation Accounts. 

(a) The depreciation account, known also as reserve for deprecia- 
tion, is opened in order to show from year to year the amounts reserved 
or appropriated from profits for depreciation of fixed properties. Instead 
of actually writing down or reducing the book value of the property by 
crediting it with the amount written off, it is carried on the books at its 
cost value and the amount of depreciation credited to a negative account, 
the depreciation reserve account. This is accomplished by a charge 
against profit and loss account, or manufacturing account. When the 
property so provided for is replaced or becomes obsolete, the cost value 
of same is charged to the depreciation reserve account. 

Some accountants open a depreciation account and charge it monthly 
with the allowance for depreciation written off the various properties, with 
a corresponding credit to depreciation reserve account, or to the property 
itself if it is being written down. In this case the depreciation account 
shows a debit balance and in turn would be charged against the profit and 
loss account or the manufacturing account as the case may be. Repair 
and maintenance charges on machinery, fixtures, buildings, etc., are also 
now considered a proper charge against these reserve accounts, if so pro- 
vided for, thereby allowing the figuring of actual costs more closely and 
keeping them in greater uniformity. 

(b) Following are the accounts and entries needed to provide for 
depreciation reserves : 

(1) Machinery account $50,000.00 

To Cash $50,000.00 

(2) Profit and Loss, or Manufacturing Account 5,000.00 

To Depreciation Reserve 5,000.00 

10. Treatment of Goodwill. 

Goodwill usually represents the cost of a business taken as a going 
concern over and above the actual value of its capital. In other words, 
it is an estimated value placed upon its earning capacity or upon the 
good name, trade or custom which it enjoys. It may be represented by 
its earning capacity, its business standing, its location, its ownership of 
patents, trademarks, contracts, etc., but the continuance of said goodwill as 
an asset depends upon the future conduct of the business and the ability of 
the new management to hold the patronage already secured. 



THEORY OF ACCOUNTS 

11. Factors of Manufacturing Cost. 

(a) Prime Cost, which includes: 

Material used, at total cost of same. Direct labor, of workmen 
actually engaged in the product. 

(b) Factory or Overhead Expenses, including: 

Indirect labor, of foremen, helpers, etc. General factory expenses, 
as heat, light, power, etc. Factory supplies, etc. Depreciation 
of equipment, etc. Salaries to factory management, etc. 

12. Items of Selling Cost. 

Selling expenses, salaries, advertising, etc. Administrative expenses, 
salaries, etc. Fixed charges, rent, taxes, insurance, etc. Depreciation and 
bad debts. Deductions from sales, allowances, discounts, etc. 

13. Fixed or Overhead Expenses. 

All the expenses of a factory not directly chargeable to the particular 
jobs in process, and which must be prorated to the various jobs according 
to some approved method of distribution. They include all of the indirect 
general and administrative expenses of the entire factory up to the com- 
pletion and delivery of the product from the factory to the warerooms. 

This includes indirect labor, general factory expenses, supplies, repairs 
and renewals, salaries of managers, superintendents and clerks in the 
factory, depreciation, etc. 

There is also a general overhead which has no place in the manufac- 
turing. It includes the various expenses incident to the business and sale 
of goods after they leave the factory. 

14. The Nature of a Balance Sheet. 

A balance sheet is a statement of the assets, liabilities and capital of 
a business at any particular time. It is presumed to reflect the financial 
condition of the concern as shown on a set of double entry books. It takes 
the name from the "balance account" formerly used to contain all of the 
balances of the closed ledger accounts. At the time of closing the ledger 
all real accounts were closed into the balance account. The assets are 
shown on the Dr. or left-hand side, while the liabilities and capital are 
shown on the Cr. or right-hand side. This form is often changed slightly 
by using a single page only in which the assets appear at the top, followed 
by the liabilities and capital. 

15. Difference Between Balance Sheet and Statement. 

A statement of assets and liabilities is known also as a balance sheet, 
since they both present the same information, the financial condition of 
the business, but a statement may contain items taken either from a set 
of double entry books or from various other sources. Since it is frequently 
necessary to compile the assets and liabilities from various sources other 
than from the ledger, it is obvious that the term "Balance Sheet" would 
be a misnomer, except for a statement which showed the items listed to 
be in balance. 

33 



C. P. A. QUESTIONS AND ANSWERS 

THEORY OF ACCOUNTS (Continued). 

THE FOLLOWING questions are from recent examinations in New- 
York, Pennsylvania and Illinois and are fairly representative of the 
class of questions in Theory of Accounts usually made use of: 

No. 1 — A corporation manufacturing explosives is compelled to pay 
exorbitant rates for a very limited amount of insurance, and in conse- 
quence was obliged to install an automatic sprinkler system at a cost of 
$75,000. This additional fire protection enabled them to secure a full line 
of insurance, though in mutual companies, and at a much lower rate than 
was obtainable prior to such installation. At the end of the fiscal year the 
company received dividends from these mutual insurance companies, 
aggregating $2,000. To what account should the cost of the sprinkler 
system be charged and to what account should this dividend be credited? 
State your reasons fully. 

■No. 2 — Describe the statements that you should prepare to disclose 
the financial transactions of a fraternal organization for an accounting 
period of one year, and its condition at the end of such period. 

No. 3 — In the annual report of a Life Insurance Company what does 
a reserve mean, how is it arrived at, and how does it affect the results 
of the business? 

No. 4 — Describe shortly how you would make up the trading account 
of a business where there were no regular books of account, and in respect 
to which you were able to obtain only the Bank Book, Check Book stubs, 
Petty Cash Book, unpaid accounts, a Memo Ledger of Customers and a 
rough Journal. 

No. 5 — In a city where taxes are payable on May 1st, based on assess- 
ments made January 1st, and are used to provide for expenditures made 
by the city in the previous year ending December 31st, what liability should 
be set up at March 31st by a company closing its books at that date and 
knowing that the tax to be paid on May 1st would be $1,200? Give reasons 
for the principle you follow. 

No. 6 — An old established and highly prosperous business is trans- 
ferred in 1900 to a company which pays the proprietors $300,000 for all 
fixed assets and $50,000 for good will. In 1909 the company has accumu- 
lated $125,000 of undivided profits, and the directors decide to charge off 
the entire item of good will. What effect will this have upon the accounts? 

No. 7 — It has been stated "that the right to declare a dividend depends 
upon the state of the company's finances at the time when the dividend is 
declared." Give your opinion briefly as to conditions under which a com- 
pany may borrow money for the purpose of paying a dividend. 

No. 8 — You are retained by an industrial company to make such an 
examination of its accounts as will enable you to certify to its balance sheet 
at Dec. 31, 1908, the object of the company being to aid it in selling its 
notes through note brokers. 

34 



THEORY OF ACCOUNTS 

Give an outline of your method of procedure, showing the extent to 
which you would consider it necessary to carry your examination in 
respect to the several classes of assets and liabilities. 

Assuming that you are satisfied to give a certificate to the balance 
sheet, in what form would you express it? 

Answers. 

No. 1 — Insurance premium is an expense which must be maintained 
if business operations are to be conducted without assuming the risk of 
loss by fire. It is proper to reduce expenses if possible, and in this case 
a reduction has been made, though the initial outlay in providing adequate 
fire protection has of necessity been large. After considering the depre- 
ciation of the automatic sprinkler system and interest on the investment 
in same, if the cost of greater fire protection is less than heretofore, then 
a corresponding increase in net profits has been made. When the sprinkler 
system is purchased, charge the cost of same to Automatic Sprinkler Sys- 
tem account or to Equipment account. The insurance premiums may be 
charged to Insurance Premium account and the dividends received credited 
to the same account. Charge depreciation of sprinkler equipment to this 
account also, and, if deemed advisable, interest on the $75,000 invested 
therein. The balance of the insurance premium account, less prepaid 
premiums, shows the net cost of insuring the property, and should be 
charged to the manufacturing account. In mutual fire insurance com- 
panies the people insured are the ones who benefit by profits earned. 
Premiums are paid regularly to the company, but at the end of each year 
the profits earned, less fire losses, expenses and surplus, are distributed 
among the various policy holders either in cash or by a reduction from 
the next premium payment, or by an issue of dividend scrip. It will be 
seen that this plan is practically a self insurance undertaking in which 
the people insured contribute the funds which pay fire losses, and then 
benefit by surplus profits. Automatic sprinkler systems are usually placed 
in manufacturing establishments and stores where combustible matter is 
kept, and the Water pressure is generally supplied from a tank on the roof 
of the building or apart from it. When a fire occurs in any part of the 
building the heat melts the caps on the pipes and permits the water to 
flood the room. 

No. 2 — The affairs of a fraternal organization must be conducted in 
accordance with the laws under which it was incorporated, the charter 
privileges and the by-laws of the organization itself. In preparing the 
statements the accountant should satisfy himself that all requirements 
have been fulfilled. 

Fraternal organizations are usually on a cash basis, therefore the cash 
book is the main book and records all receipts from whatever source as 
well as all disbursements for expenses, investments, benefits, death 
claims, etc. 

A statee'mnt of income and expenses should be prepared, setting forth 
the entire income for the year and apportioned to the various purposes 
for which received, as Insurance, Benefits, Fines, Assessments, Interest, 

35 



C. P. A. QUESTIONS AND ANSWERS 

Dividends, etc. This should include dues in arrears, accrued interest on 
investments, etc. 

Care must be taken to see that income from the various sources is 
apportioned to the proper funds and accounts for which received. 

The expenses will include among the usual accounts, outlay for sick 
and funeral benefits, death claims, traveling expenses, agents' expenses, 
general expenses, taxes, reserves, etc. 

The above comments have reference more particularly to the head 
office of the organization, which indeed would require an exhaustive exam- 
ination if the affairs are to be clearly set forth. In the case of a local lodge 
the transactions are very simple and require much less time. All financial 
transactions are handled by the secretary and the treasurer. All moneys 
are received by the secretary and turned over to the treasurer, and his 
receipt take for same. Payments are made by the treasurer upon orders 
from the secretary after approval by the lodge. The secretary is the 
principal officer, and is responsible for the collection of funds, keeping of 
accounts with members, issuing orders on the treasurer for payments, etc. 
The treasurer keeps the bank account, makes all deposits, issues checks 
upon duly authorized orders, and is responsible for the safe keeping of 
the funds. 

The usual annual statements are : 

1. The Treasurer's Report, showing the receipts and disbursements 
of cash and for what purposes, the cash and investments on hand, etc. 

2. Secretary's Report, showing the cash received and turned over to 
the treasurer, and the payments per orders issued on the treasurer. 

3. The Secretary gives a further report as to membership, setting 
forth : 

Membership at begining of year. 

New members during year. 

Reinstatements during year. 

Withdrawals, transfers and expulsions. 

Members in arrears, etc. 

Statistical report as to deaths, sickness, benefits, etc. 

Comparative statement for term of years. 

The financial condition at the end of the year should be set forth in 
a statement of assets and liabilities, showing the property owned, cash and 
investments, dues in arrears, etc., and the liabilities, if any, the general 
fund, sick fund, etc. 

No. 3 — Insurance Reserve. The reserve is the amount required by 
law for an insurance company to have on hand in substantial assets to 
enable the company to carry out its contracts with policy holders. Since 
the company enters into contracts whereby it agrees to pay to the insured 
definite amounts at death or at certain times, as at the end of say ten or 
twenty years, it is evident that it must set aside for each obligation such 
amounts as will equal said obligation when it matures. The annuities set 
aside draw interest and are usually invested in good securities. The law 

36 



THEORY OF ACCOUNTS 

requires that the reserves shall be figured at conservative rates, either 
3 or 2> l /2% according to actuaries' mortality tables, and the lower the rate 
the greater the amount to be reserved each year. Death claims according 
to the mortality tables, average so many per year to the thousand, there- 
fore the company must so arrange its income and reserves as to pay these 
claims and still provide for expenses, dividends and surplus profits. 

New obligations are constantly being entered into and a continuous 
flow of premium money being received, so it is impossible at any one time 
to say how much the reserve amounts to. The burden of keeping the 
reserve in condition devolves upon the actuarial department, and in esti- 
mating correct amounts every policy issued must be considered and aver- 
aged. They estimate that such a portion of the annual premium on each 
policy must be set aside as will be required to accumulate the face value 
of the policy at the estimated due date. Reserves as such are non-ledger 
accounts, that is, they do not appear as such in the ledger, but are so 
recorded in the anual statements to the various states in which they trans- 
act business. 

No. 4 — From the data given we can easily determine the purchases 
and sales. It is then necessary to prove cash and reconcile the bank 
account, after which an inventory should be taken of all goods on hand. 

The receipts and payments of cash should be verified and analyzed, 
as far as possible. The payments can be determined from the check stubs 
and petty cash book. All cash payments plus cash on hand must equal 
the total cash received ; or the total deposits plus petty cash payments 
must equal the cash received, in case petty cash payments were made out 
of cash received. If petty cash had been drawn from the bank on the 
Imprest plan then the presumption is that all receipts were deposited, in 
which case the total deposits would equal the total receipts. 

From the total cash received deduct the original balance or invest- 
ment, and the remaining receipts may be considered as from sales of 
merchandise. The sales thus shown plus accounts of customers constitute 
the entire sales for the year. 

Since the cash payments for goods purchased can be determined from 
the records, add to these the unpaid accounts to get the aggregate pur- 
chases. 

The above analysis is based on the assumption that the firm is in its 
first year of business, otherwise it would be necessary to determine the 
goods on hand, the accounts receivable, and the accounts payable at the 
begining of the year.- From the information already compiled and the 
data recorded in the journal the accountant would not experience much 
difficulty in setting up a satisfactory Trading Account. 

No. 5 — This question has reference to the provision for accrued taxes 
on the company's books. The fiscal year of the city ends on Dec. 31, at 
which time the amount needed for taxes is fixed and nominally due, while 
the company under consideration ends its fiscal year March 31st. It is 
evident that on this date the company would not only set up a liability for 

37 



C. P. A. QUESTIONS AND ANSWERS 

the tax levy of $1,200.00 due on May 1st for the past calendar year, but 
should make allowance for accrued taxes for the three months of the 
present year based on the previous year's tax levy. On this basis the 
amount of provision should be $1,500.00 by a charge to profit and loss 
account and a credit to taxes account. When the $1,200.00 is paid on 
May 1st, the accrued item of $300.00 will remain as a credit to the taxes 
account until the next date of adjustment. In succeeding years only the 
fixed amount to be paid (say $1,200.00) need be added at the closing date, 
since a balance to taxes account will have to be carried over from the 
previous year; and any fluctuations in taxation can be easily adjusted 
when closing the books. 

No. 6 — Good will charged against surplus. It is perfectly proper for 
the directors of a company to write off good will against surplus profits if 
they deem it advisable to do so. In this case the surplus is sufficiently 
large to justify this procedure and still leave a balance of $75,000 of undi- 
vided profit. From the progress of the company, however, judging from 
the surplus profits set aside, there is no necessity of writing off the good 
will, since the company is in good condition and prosperous. Under such 
a condition the good will might even be estimated at a higher figure if 
circumstances required a re-valuation. 

The book accounts of the company will not be affected by this action 
of the directors other than to decrease the assets $50,000, and to make a 
corresponding decrease in the surplus account. Since the good will is a 
passive asset and not at all necessary for a going concern, it can be elimin- 
ated without affecting in any way the standing of the company or the 
status of the accounts. By so doing, however, good will as an asset is 
eliminated and a substantial secret reserve created. It is true that the 
stock of the company may appear to be of less value by a decrease of 
surplus, but such a conclusion is unfounded because of the reserve 
strength of the company, and the substantial profits which are being made. 

No. 7— The directors of a company have the right to declare divi- 
dends in case the company is in a condition to do so, providing that by 
so doing the capital is not impaired. While it is not advisable to declare 
dividends up to the last dollar, yet in many cases the directors feel called 
upon to overstep the bounds of conservatism in order to maintain the 
standing of the company, and in order to pay dividends they may either 
have to draw heavily upon surplus profits or to create fictitious profits 
for that purpose. When dividends have been declared, however, they 
become a liability of the company and a claim by the stockholders, there- 
fore the stockholders may demand payment. This liability of a company 
must be paid even if in order to do so the company has to borrow money. 
It is better not to declare dividends when the company is in such close 
circumstances, but everything else being equal, it is not improper for the 
directors to do so. If the company is short of cash with which to pay 
dividends because of being heavily stocked with merchandise or other 
assets, a temporary loan may be resorted to, or even promissory notes 
may be given to the stockholders for all or part of the dividends due. 

38 



THEORY OF ACCOUNTS 

No. 8 — When a business concern has reached its limit of credit with 
its banker, it often sells its notes to other banks, including country banks, 
through note brokers. The broker places the notes of his customer if 
possible, and receives for his services a commission of % or 34 °f one P er 
cent. In order to secure the accommodation of banks in this way the 
maker of the notes must be able to show that he is financially responsible 
and able to meet his obligations at maturity. 

In this question the company must show that it is entitled to credit, 
and to do so its balance sheet has been presented as evidence, and the 
attached certificate of the certified public accountant is conclusive evi- 
dence of its genuineness. Before giving his certificate, the accountant must 
satisfy himself that all assets are genuine and not overstated, and that all 
liabilities are listed and truly set forth. He is concerned only with facts 
as he finds them and must so report them, because on the strength of his 
certificate credit will be granted or refused. He should examine the Profit 
and Loss account for the past year to satisfy himself that the profits have 
not been overstated for the purpose of making a good showing. If he 
finds anything requiring adjustment it should be satisfactorily adjusted 
before he attaches his certificate. 

It is necessary to audit the receipts and payments of cash, and to 
verify the present cash balance by counting the cash and reconciling bank 
account. The current assets should be examined carefully to see that they 
are conservatively valued and actually available. The accounts receive- 
able should be listed under good, doubtful, approbation, consignment, etc., 
and all worthless items excluded. Overdue notes should be shown sepa- 
rately and a reserve for doubtful notes and accounts provided. If sales 
have been made for future delivery and the accounts charged, the goods 
thus disposed of should not be included in the inventory ; such accounts 
should be listed separately in the balance sheet. The fixed assets should 
"be examined and the incumbrances against them carefully noted. Passive 
assets, as good will and accrued items, should be shown separately. 

The liabilities should have close attention to see that they are all in- 
cluded, and the accountant must not take anything for granted in his 
examination. Notes, accounts and other obligations should be separately 
listed, and the dates when due clearly indicated. Contingent liabilities 
should be listed and shown on the statement. The accountant's certificate 
may be as follows : 

Certificate — This certifies that I have examined the above Balance 
Sheet, and have compared the items therein with the books of the company. 
The various assets and liabilities have been carefully investigated and veri- 
fied, and in my judgment present a true and correct view of the company's 
.affairs. 

(Signed) R. J. BENNETT, 

Certified Public Accountant. 



39 



T 



C. P. A. QUESTIONS AND ANSWERS 

THEORY OF ACCOUNTS (Continued). 

Miscellaneous Questions. 

HE FOLLOWING questions have been selected because of their 
generality and also because of the difference of opinion which some- 
times exists in connection with the subjects covered. 



Question 1. 

Contrast the daybook, journal and ledger method of book-keeping 
with some more modern method. Describe the limitations of the first 
mentioned method and show to what extent, in what manner and for 
what reason it has been superseded or modified in modern accounting 
practice. 

Answer. 

The old fashioned daybook was only a memorandum book, arranged 
in chronological order, but without classification. The items were sorted 
out and then journalized; from the journal they were transferred to the 
ledger. 

The modern daybook is constructed on the columnar principle ; the 
ledgers likewise. The journal is discarded altogether and used only in 
a few instances, i. e., opening and closing entries, adjustments, etc. The 
modern accounting system is built on two main principles : 

1. The explicit record of each transaction direct from original books 
of entry ; 

2. The ready classification of such transactions under proper head- 
ings in tabulated form. The advantages of the modern system are : 

a. Plain and self-explanatory records ; 

b. A minute classification of such records, showing the sources and 
final results at a glance ; 

c. An enormous saving of time and labor; 

d. A ready inspection of the books is afforded and statistical work 
made easy. 

Question 2. 

Define and differentiate the terms "reserve account" and "reserve 
fund." 

Answer. 

A clear distinction should be made between the terms "account" and 
"fund," as contrasting each other. 

a. A reserve, in this sense, represents a portion of the profits of the 
business set aside for some specific purpose, usually as an offset to some 
item represented in the assets. For example, reserve for depreciation, re- 
serve for bad debts, etc. To this account should be charged depreciation, 
or losses on any assets for which it has been reserved. It should always 
appear as a credit balance and while the amount so reserved is represented 
by part of the assets, though not specifically designated, such balance is 
not always available as a cash asset. 

40 



THEORY OF ACCOUNTS 

b. A "fund" should always appear as a debit balance and ranks as 
a specific cash asset. The term "fund" invariably indicates that cash is 
either on hand, invested or deposited for the purpose of meeting some 
liability or of making some improvement at a future time. 

Question 3. 

In what respects and for what reason do the books of account of a 
commission merchant differ from those kept by an importer? 

Answer. 

The difference in accounts between the commission and importing 
business lies in the principles of ownership and possession. 

The commission merchant is not the owner of the goods; conse- 
quently no merchandise account exists on his books. He simply credits 
the consignment account. His remuneration is the commission agreed 
upon. The whole transaction is a question of possession solely, a bail- 
ment sale. He sells the goods, deducts his expenses and commissions and 
sends the net proceeds to his principal. 

The importer, again, usually buys the goods through his agent abroad : 
here is a question of ownership. 

The fluctuations in exchange form an important item in an importer's 
business and should receive careful consideration; also the various expenses 
and charges incident to the importing business. 

An importer may also do a commission business; he is then on the 
same footing as the commission merchant in his line, and his accounting 
system in the commission line will be that of the commission merchant. 

Question 4. 

Outline entries necessary to record on the books of the consignee all 
the transactions incident to a consignment. 

Answer. 

The consignee should open two accounts on the receipt of goods, 
entered up in detail in the receiving book. 

"Consignment from X" account is debited with the value of the goods, 
and "X, consignment" account is credited with the corresponding amount. 

The former account is a temporary trading account, while the latter 
is a personal account ; this temporary trading account is credited with the 
sales. It is charged with all expenses, such as freight, insurance, duty, 
labor, etc. When all goods have been sold, the result will be either a profit 
or a loss, which is transferred to the personal account. The difference in 
"X consignment" account, constitutes the net proceeds which are remitted, 
and the account will be closed. Advance payments on account of the con- 
signment are of course charged to the personal account when made. The 
consignee will also send the consignor an "account sales" from time to time, 
showing the progress of the sales, less expenses incurred, for adjustment 
on consignor's books. 

Question 5. 

On what theory is the doctrine of equilibrium in book-keeping founded ? 
Explain. 

41 



C. P. A. QUESTIONS AND ANSWERS 

Answer. 

The doctrine of equilibrium in book-keeping is based on the funda- 
mental principle that each debit must have its corresponding credit and 
vice versa. Every amount is entered twice ; once on the debit side and 
once on the credit side : a twofold entry. 

A benefit is received : debit once. 

A benefit is imparted : credit once. 

Debit value in and credit value out are corresponding accounts. 

Question 6. 

What great method of expressing accounting results has been evolved 
out of the doctrine of equilibrium? 

Answer. 

Book-keeping is simply a transfer of money or money's worth. The 
evolution of the doctrine of equilibrium resulted in the modern double 
entry book-keeping, a complete scientific system of recording business 
transacted, with its final exposition of profit and loss account, closed into 
the balance sheet which will then maintain the equilibrium, thus proving 
the arithmetical accuracy of the final results. 

Question 7. 

Compare a simple arrangement of accounts, as for example, capital, 
cash, merchandise, personal expense, profit and loss, with some other 
scheme of accounts expanded to meet the demands of present day require- 
ments. Describe the possibilities and advantages of the more modern 
scheme. 

Answer. 

The personal accounts, according to modern accounting methods, 
should be kept on the self-balancing plan, customers and creditors in sep- 
arate ledgers, accompanied by controlling accounts, showing in toto the 
actual amount of the personal accounts in detail, thus making the work on 
trial balances easier. Errors are localized and the aggregate amount of 
personal accounts as shown in the trial balances determined by the con- 
trolling accounts. The controlling account in the general ledger represents 
the aggregate personal accounts due to the concern, and it agrees with the 
corresponding controlling account in the accounts receivable ledger. This 
is true also of controlling accounts for the accounts payable. The general 
ledger should contain the usual nominal accounts ; the balance is closed 
into the private ledger, thus controlling the correctness of the book- 
keeper's work at balancing time. 

The private ledger, under lock and key, is accessible only to the pro- 
prietors or their confidential man, thus keeping the results of the year's 
transactions from the knowledge of the general book-keeping staff. 

The private ledger usually contains the following accounts: 

Capital accounts, merchandise accounts, proprietors' drawing accounts, 
"balance sheet and generally such accounts that the proprietors wish to 
keep from the eyes of the book-keepers. 

This system is known under the name of the "Safeguard System." 
It obviously differs widely in arrangements from the old systems, still in 
vogue, and its utility and superiority cannot be overestimated. 

42 



THEORY OF ACCOUNTS 

Question 8. 
At the close of a fiscal period how are consigned goods treated on 
the ledger and balance sheet of (a) the consignor, (b) the consignee? 

Answer. 

(a) Consignor. The balance on the various consignment accounts in 
the consignment ledger are either carried to the profit and loss account 
or are left standing in the ledger, and so appear as assets in the balance 
sheet. The balances which are carried to profit and loss account are the 
dered and duly recorded. They indicate that either a profit or a loss has 
been made on the venture. 

The other balances in the consignment ledger will then consist of 
consignments unrealized at date of stock-taking, and these are taken as 
assets. On the balance sheet the consignment accounts should be stated 
at cost price, together with incurred expenses ; ample reserve should be 
created for possible losses, and this reserve should be deducted from the 
consignment accounts, thus showing the estimated value at closing time. 

When only part of a consignment has been sold at stock-taking and 
there is a part unsold, the treatment of the account greatly depends on 
circumstances, though sometimes the portion already disposed of is closed 
into profit and loss. 

b. Consignee. In the consignment ledger, accounts are opened with 
number of consignment and consignor's name. When the consignee has 
power to dispose of the goods as he thinks best and sells them to one 
of his own customers, he makes a journal entry debiting his customer and 
crediting the consignor, as he is liable to the consignor for the proceeds 
which he will receive from his customer. 

On the balance sheet, all goods on hand should not be taken into 
account, as such goods are not the consignee's property, but only in his 
custody. From his register of consignment the consignee sends the con- 
signor a list of goods on hand for verification. 

Question 9. 

Define and differentiate executor, administrator, trustee. 

Answer. 

a. An executor is a person appointed in the will of testator or testa- 
trix to settle his or her estate. One or more persons may be named, male 
or female. 

b. An administrator is a person appointed by the court to settle the 
estate of a deceased person. If no executor was named in the will, or the 
appointed executor refuses to act, resigns, fails to act or dies, the court will 
appoint an administrator with the will annexed. 

The executor derives his authority from the will, the administrator 
from the court. The duties of the two are substantially the same. 

c. A trustee is a person entrusted with property for the benefit of 
another. The powers and duties of a trustee are strictly limited by the 
particular instrument creating the trust, whereas the executor and admin- 
istrator take powers by virtue of their offices. A trustee in bankruptcy 
is appointed by the court, or elected by creditors, to take charge of, hold 
or dispose of the property and assets of a bankrupt estate. 

43 



PART TWO 



Practical Accounting. 



ANALYSIS OF ACCOUNTS. 

THE FOLLOWING question has been selected as an interesting 
study in analysis rather than as a problem in Accountancy. Be- 
ginners will find it beneficial, and even more advanced students of 
auditing may find it worth while : 

"You are asked to redraft the following statements if they are incor- 
rect. Interest on capital is at 5 per cent per annum. 

PROFIT AND LOSS ACCOUNT FOR SIX MONTHS ENDED 31ST DEC, 1912. 

To Purchases $27,000.00 By Sales $40,025.00 

Stock, 31st Dec, 1912 5,000.00. Int. on Capital 500.00 

Partners' Drawings 2,500.00 Stock 1st July, '12 8,250.00 

Rent 500.00 Commissions 1,500.00 

Salaries 1,500.00 

Wages 4,750.00 

General Expenses 900.00 

Interest on Loan 125.00 

Bal. Net Profit 8,000.00 



$50,275.00 $50,275.00 



BALANCE SHEET, 31ST DEC, 1912. 

Creditors $ 5,400.00 Debtors $10,200.00 

Bills Receivable 3,200.00 Cash on Hand 700.00 

Partners' Accts., 1st July, 1912. 10,000.00 Cash in Bank 4,000.00 

Net Profit 8,000.00 Loan from Bank 5,000.00 

Stock, 31st Dec, 1912 5,000.00 

Bills Payable 1,700.00 



$26,600.00 $26,600.00 



The Answer. 
REDRAFTED BALANCE SHEET, DEC. 31ST, 1912. 

ASSETS LIABILITIES 

Cash on Hand $ 700.00 Accounts Payable $5,400.00 

Cash in Bank 4,000.00 Loan from Bank 5,000.00 

Bills Receivable 3,200.00 Bills Payable 1,700.00 



Accounts Receivable 10,200.00 

Stock on Hand 5,000.00 Total Liabilities $12,100.00 

Capital Accounts: 

Total Assets - $23,100.00 Investment $10,000.00 

Less Drawings 2,500.00 



$ 7,500.00 



Add: 

Interest $ 250.00 

Net Gain 3,250.00 



Present Capital $1 1,000.00 



$23,100.00 $23.100.00 

45 



C. P. A. QUESTIONS AND ANSWERS 



PROFIT AND LOSS ACCOUNT. REDRAFTED DEC. 31ST, 1912. 

DEBITS CREDITS 

Inventory, 7-1-12 $ 8,250.00 Sales $40,025.00 

Purchases 27,000.00 

Wages 4,750.00 

$40,000.00 
Deduct: 

Inventory, 12-31-12 5,000.00 

Cost of Sales $35,000.00 

Gross Gain, carried down 5,025.00 

$40,025.00 $40,025.00 

Rent $ 500.00 Gross Gain $ 5,025.00 

Salaries 1,500.00 Commissions 1,500.00 

General Expenses 900.00 

Interest on Loan 125.00 

Total Charges $ 3,025.00 

Interest on Capital 250.00 

Net Gain 3,250.00 

$ 6,525.00 $ 6,525.00 



Comments. 

This question is not difficult, but it contains some points of interest 
and the reader will be repaid by making a study of it before consulting 
the answer. The items are mixed up more than one would expect to find 
in statements, and the fact that both of them balance by an apparent 
net profit of $8,000.00 would lead one to suppose that this had something 
to do with the final result. It has nothing whatever to do with the solu- 
tion and it is quite interesting to note that balances could be secured in 
such a condition of affairs. 

The business has been running for six months. Interest on capital 
for six months amounts to $250.00 instead of $500.00 as shown in the state- 
ment. From the figures a statement of assets and liabilities can be easily 
compiled, the balance of which gives the present capital of the firm, $11,- 
000.00. It will be noted that the investments were $10,000.00, while the 
withdrawals were $2,500.00, leaving a net investment of $7,500.00. To 
this amount add interest on original investment, $250.00, giving a total 
of $7,750.00. The difference between this amount and the capital, $11,- 
000.00, is the net profit for the period, $3,250.00. If interest on capital is 
considered a profit then the net gain is $3,500.00. In solving the problem 
the first step is to determine the net capital, and then the net gain, after 
which the matter of preparing the profit and loss statement is very simple. 
Commissions amounting to $1,500.00 are evidently earned, though there is 
nothing in the question to signify this conclusion other than by the balance 
obtained. We must, however, secure a net gain of $3,250.00, and to get 
this amount the items of the statement must be arranged in such a way 
as to produce the required result. No accrued interest or depreciation 
has been considered, but it would be prudent to provide for such. 



46 



PRACTICAL ACCOUNTING 

ANNUITIES AND SINKING FUNDS. 

The following questions on Annuities and Sinking Funds are selected 
to illustrate the manner of using compound interest in actual practice: 

1. A railroad company issued Sinking Fund Bonds at 5 per cent for 
$5,000,000, payable in twenty years, interest coupons payable semi-an- 
nually. What amount must be set aside at the end of each year and com- 
pounded at 4 per cent to meet the principal when due? 

Make the entries involved in the transaction up to and including the 
end of the second year. 

2. A town borrowed $40,000 for street improvements, to be repaid in 
fifteen years by equal annual installments including principal and interest. 
If the rate of interest is 5 per cent, what is the amount of the annual pay- 
ment? Show the respective amounts paid for principal and interest during 
the first two years. 

Show the bookkeeping entries necessary during these two years. 

3. A county borrowed $25,000 with which to build a bridge, and 
raised $2,000 a year to pay for it. Allowing 5 per cent compound interest, 
how many vears will be required to cancel the debt? 

General Comments. 

Bonds of different kinds and tenor are issued by corporations, munici- 
palities, states, and the Federal Government, and the work of the account- 
ant bring? him in contact with them all. The bonds themselves present 
very little difficulty to the average practitioner, but the matter of provid- 
ing for their redemption and the calculations required in connection there- 
with are not so well understood. It is true that the calculations may be 
eliminated almost entirely and the required amounts obtained from the 
annuity tables, but notwithstanding this convenience every competent 
accountant should be familiar with the methods of calculating annuities 
and arriving at correct results. In order to understand calculations in 
annuities, sinking funds, etc., it is necessary to have a thorough knowledge 
of compound interest as the principles underlying it govern all questions 
of this sort. The person desirous of mastering this subject should first 
review with care simple and compound interest, present worth and true 
discount, progression, powers and roots. If he has a knowledge of 
logarithms so much the better, but for practical purposes this is not a 
necessity. 

An annuity is a payment of a definite sum of money annually or at 
regularly recurring intervals, not necessarily annually, but usually so. If 
we consider what causes an investment of $1 at 5 per cent per annum to 
amount to $1.21551 in four years, we shall see that it is a regular annual 
addition of 5 cents to the original $1 — in other words, the addition of an 
annuity of 5 cents which in its turn increases at the rate of 5 per cent per 
annum. Suppose the original $1 to have been left in the Citizens' Bank 
for the entire period of four years and only the annual interest of five 
cents withdrawn as soon as it came due and deposited at the same rate 

47 



C. P. A. QUESTIONS AND ANSWERS 

per cent in the Central Savings Bank. It is clear that at the end of four 
years we shall have just $1 in the Citizens' Bank and $.21551 in the Cen- 
tral Savings Bank. The amount in the last named bank is simply the result 
of an annuity of 5 cents per annum paid into it for a period of four years; 
therefore, $.21551 is the value at^maturity; that is, the final value of an 
annuity of 5 cents for 4 years at 5 per cent. From this, the final value 
of an annuity of $1 or any other sum may readily be found. For if 
an annuity of 5 cents has a final value of $.21551 then an annuity of $1.00 
has a final value of 20 X $.21551 = $4.3102. The process may be stated 
in the following rule: To find the final value of an annuity of $1 for a given 
time at a given rate, first find the compound interest on $1 (from the com- 
pound interest tables in any good arithmetic, or by calculation) for the 
given time at the given rate, then multiply by 100 and divide by the given 
rate. 

Answer to Question No. 1. 

As nothing is mentioned in the question about underwriting expenses, 
commissions, or discounts, we may pass by the consideration of those 
points and suppose the bonds to have been sold at par. The interest 
coupons are payable semi-annually and do not affect the annuity payments , 
in any way. As they mature they are paid and the amount charged to 
Bond Interest which, in turn, is closed into Profit and Loss account. In 
twenty years the railroad company must pay $5,000,000, and during that 
time must set aside at the end of each year a definite sum to remain at 
compound interest until the maturity of the bonds. It will be readily 
seen that the first installment to the sinking fund will be at interest for 
19 years at 4 per cent, the second for 18 years, the third for 17 years, and 
so on, until the last installment is made, which will be at the date the 
bonds mature and therefore will not draw any interest. The required 
annual installment is found to be $167,908.75, and is determined by divid- 
ing into $5,000,000 the final value of an annuity of $1 for 20 years at 4 
per cent. This final value is $29.778079 as shown by the annuity tables, 
or as determined by the method suggested at the beginning of this article. 
This amount may be determined also by adding together the final values 
of an instalment of $1 at compound interest for all of the years from 19 
down to 1 and including the last payment or deposit of $1 which does not 
draw any interest. This can be readily determined from the compound 
interest tables. It will be seen that the ordinary compound interest tables, 
which are familiar to every school boy, can be used in computing many 
of the annuity problems which baffle many accountancy students and 
prove stumbling blocks to accountants. 

Referring to the question, the final value of an annuity of $1 at 4 per 
cent for twenty years must first be found as follows : 

1.04 20 =-= $2.19112314. Now take the compound interest, 
$1.19112314 X 100 
= $29.778079, the final value of $1 annuity. 

4 

Now if $29.778079 is the final value of an annuity of $1, then $5,000,000 
is the final value of $5,000,000 -f- $29.778079 = $167,908.75, the required 

48 



PRACTICAL ACCOUNTING 

sinking fund. It is self-evident that the sinking fund installments must 
be regularly deposited and continued at the rate of 4 per cent to provide 
the estimated amount. 

The Book Entries. 

When bonds are issued by corporations there is usually some method 
adopted for their redemption when due, providing they are not liquidated 
by annual installments of interest and part of the principal. The sinking- 
fund method is a common one, and the annual appropriations are usually 
put into the hands of a trustee for investment and safe keeping. The 
appropriation to be so deposited may be the amount as computed above, 
or else a definite sum of, say, one-twentieth of the total debt, $250,000, 
the interest on which would be paid over to the company at regular interest 
periods. This method is a convenient one and removes from the matter 
any consideration of compound interest on the annual installments. The 
sinking fund installments are usually taken out of profits as a precaution 
against the possibility of excessive dividends being paid by the directors 
to the detriment of the company, but' as the debt is not paid out of profits 
this need not be done if otherwise provided. If a substantial surplus is 
maintained it will suffice, otherwise it is advisable to provide a reserve 
for bond redemption. 

Tournal Entries at the time the bonds are issued : 

Cash $5,000,000.00 

To Bond Account $5,000,000.00 

At the end of each six months when coupons are paid an entry will 
be required : 

Bond Interest $125,000.00 

To Cash $125,000.00 

At the end of the first year when the first installment to the sinking 
fund is provided for and handed over to the trustee: 

Profit and Loss $167,90875 

To Sinking Fund Reserve $167,908.75 

Sinking Fund $167,908.75 

To Cash $167,908.75 

At the end of the second year and each succeeding year the above two 
entries for the sinking fund installments will be repeated. The accrued 
interest on the sinking fund for the year ended must also be considered 
and properly recorded. On the first installment there has accrued interest 
for one year on $167,908.75 at 4 per cent, $6716.35. If this is handled 
exclusively by the trustee we need not put it through our cash account but 
make an adjusting entry: 

Sinking Fund (the Trustee) $6716.35 

To Sinking Fund Reserve $6716.35 

49 



C. P. A. QUESTIONS AND ANSWERS 

The amount accrued may be put through a sinking fund income 
account, but that only adds work. Presuming that the income is received 
in cash and then turned over to the trustee, we have : 
Cash $6716.35 

To Sinking Fund Reserve $6716.35 

Sinking Fund $6716.35 

To Cash $6716.35 

Answer to Question No. 2. 

We see that the same amount of money must be appropriated each 
year for 15 years, and each installment includes interest on all of the bonds 
then outstanding as well as part of the principal. The question resolves 
itself in the first place into an annuity problem, in which we are required 
to find what equal annual payment is equivalent to $40,000 invested at 5 
per cent ; in other words, what annuity can be bought for $40,000 when 
money is worth 5 per cent per annum. Our compound interest tables are 
of use again, or the annuity tables may be used in solving the problem. 
The following rule may be of value : To find the amount of an annuity 
to run a given time that can be bought for a given sum when money is 
at a given rate : First find the compound amount of the given sum for 
the given time at the given rate; then divide this by the final value of an 
annuity of $1 for the same time and at the same rate. 

1.05 15 = 2.078928 amount of $1 in 15 years at 5%. 

2.078928 X 40,000 = $83157.12 amount of $40,000 for same time and rate. 

1.078928 X 100 

= $21.57856 final value of $1, annual payment for 15 years. 

5 
83157.12 

• = $3,853.69, answer. 

21.857856 

Aggregate amount of bonds — $40,000.00. 

Interest accrued on above end of first year = $2,000.00. 

The annual payment is $3,853.69. This includes the first bond and 
$2,000 for interest on the entire bond issue; deduct $2,000 from $3,853.69 
and we have the amount of the first Bond — $1,853.69. 

$40,000 — $1,853.69 ==$38,146.31, aggregate of the remaining bonds, 
which will draw interest for the second year. 

$38,146.31 X .05 = $1,907.32 = interest accrued at end of second year. 

$3,853.69 = sum of second bond and the interest coupon of $1,907.32. 
Deduct $1,907.32 from $3,853.69 and we have the second bond = $1,946.37. 

$38,146.31— $1,946.37 = $36,199.94, aggregate of remaining bonds. 

The same process may be continued from year to year in determining 
what part of the annual installments belong to principal and what part 
to interest. It will be noted, however, that each succeeding year the in- 
terest is reduced, while the payment on principal is increased. 

At the time the bonds are issued and the cash received we make this 
entry. The term Bonds Payable is used simply as a variation from the 
entry used in the first question. 

50 



PRACTICAL ACCOUNTING 

Cash ,$40,000.00 

To Bonds Payable $40,000.00 

At the end of the first year when the interest is paid and the first bond: 

Bond Interest $2,000.00 

Bonds Payable $1,853.69 

To Cash $3,853.69 

At the end of the second year : 

Bond Interest $1,907.32 

Bonds Payable $1,946.37 

To Cash $3,853.69 

Answer to Question No. 3. 

This question is an interesting one and often comes up in connection 
with periodic installments on real estate which have been purchased on 
the installment plan, of so much per month, quarter, or otherwise, until 
the principal is liquidated. It is one that can be easily determined by 
means of the annuity tables. 

We see that an annual payment of $2,000 for a given time will liaui- 
date $25,000 and the compound interest on it at 5 per cent. This annuity 
or sinking fund of $2,000 has a present worth of $25,000 for a certain time 
at 5 per cent. Then a sinking fund of $1 has a present worth of $25,000 -^- 
$2,000 = $12.50 for the required time at 5 per cent. To find the number 
of years for which $1.00 has a present worth of $12.50 we consult the 
annuity tables which show "the present worth of $1.00 annuity for any 
number of years at any rate per cent." 

By consulting this table in the column for 5 per cent we find the 
nearest number to $12.50 to be $12.46221, the present worth of $1.00 for 
20 years. Twenty years is therefore the answer, or the number of years 
required. Again : The amount of the debt, $25,000 at 5 per cent compound 
interest for twenty years = $66,332.44. 

The amount of a sinking fund of $2,000 at compound interest for 20 
years = $66,131.91. 

Balance due at the end of 20 years, $220.53. 



51 



C. P. A. QUESTIONS AND ANSWERS 

Sinking Funds (Continued). 

On First of July, 1910, a company borrowed $100,000 at 4 per cent 
per annum, payable half-yearly, and payment of loan to be made at end of 
ten years at 105 per cent. It was decided to set aside annually out 
of the profits such a sum as would, with interest at 4 per cent per annum, 
provide for the payment of the premium on the loan at the end of the term. 

Solution. 

The premium on the loan to be provided" for is $5,000; hence, a sink- 
ing fund must be created that will at the end of ten years wipe out the 
premium, with interest compounded at 4 per cent per annum. 

The algebraic formula for finding the amount of the sinking fund is: 



X 



( 1. + i ) X — 1 
where i is the rate of interest on annuity for 1 period, N is the number of 
periods. 

The equation will then be: 

.04 .04 

, — = ,= .0«32 ( 'l 

(1 + .04) 1 "— 1 .48024 

and .083201 X 5000.= $416.46 = the annual installment to be set aside from 
profits. 

The compounded interest for ten years at 4 per cent, per annum is com- 
puted in the following manner : 
(1.04) a = 1.0816 
(1.0816*= (1.04)* = 1.16986 
(1.16986)*= (1.04) 8 = 1.36857 
1.36857 X 1.0816= (1.04) 8 X (1.04)'-= ( 1. 04) 10 = 1.48024— 1,00000=. 48024 
Compound interest, 10 years, at 4% per annum. 

Having found the compound interest on the unit for the time and rate 
of interest given, the annual installment may be found by first finding the 
amount of an annuity of $1 by dividing the total interest by the rate of 
interest. 

.48024 ^.04 = $12,006 
Then $5,000 -+- $12,006 = $416.46, the annual sinking fund. The ledger 
accounts will appear as follows : 

' LOAN ACCOUNT. 

Repayable in 10 years at 105 per cent. 

1910 

July 1— By Cash $100,000 



INTEREST OX LOAN ACCOUNT. 



Dec. 31, 1910— To Cash $2,000 

July 1, 1911— To Cash $2,000 

Dec. 31, 1911— To Cash $2,000 



.A> 



PRACTICAL ACCOUNTING 

INVESTMENT ACCOUNT. - 

1911 ]911 

j u l y i_To Cash $416.46 July 1— By Balance $416.46 

July 1— To Balance 416.46 1912 

191? July 1— By Balance 849.58 

j u l y i_To Cash 433.12 

849.58 849.58 



July 1 — To Balance 
1913 



849.58 



1913 



July 1— To Cash 450.44 July 1— By Balance 1,300.02 

1,300.02 $1.300.02 



July 1— To Balance $1,300.02 

SINKING FUND ACCOUNT. 

1911 1911 

July 1— To Balance $416.46 July 1— By P. & L. Account $416.46 



1912 1911 

July i_To Balance 849.58 July 1— By Balance 416.46 

1912 

July 1— By P. & L. Account 416.46 

July 1— Cash Interest 16.66 



849.58 849.58 



July 1— By Balance 849.58 
1913 1913 

July 1— To Balance 1,300.02 July 1— By P. & L. Account 416.46 

July 1— By Cash Interest 33.98 

1,300.02 1,300.02 



July 1— By Balance $1,300.02 

Comments. 

The question indicates that the Sinking Fund is invested outside the 
business in gilt-edged securities and allowed to accumulate at compound 
interest so as to produce exactly $5,000 at the end of ten years; an equal 
amount should be debited to Profit and Loss account each year and credited 
to Sinking Fund Reserve Account. An equivalent amount of cash is then 
invested outside, the annual cash interest from the investment being cred- 
ited to the Sinking Fund Reserve Account and debited to Investment 
Account. 

When the premium is discharged, the Sinking Fund Reserve Account, 
still standing with a credit balance which represents a capital liability, 
should be transferred to General Reserve Account, since the particular 
purpose for which it was created has ceased to exist. 

Formerly the Sinking Fund Account was represented by a specific 
Cash investment ; now it will be represented by the general assets of the 
business to the extent acquired out of the profits. 

It should be borne in mind that the provision of a Sinking Fund for 
the payment of a liability is not a charge against profits, but an appropria- 

53 



C. P. A. QUESTIONS AND ANSWERS 

tion of them ; the provision for a Depreciation Fund, formed for the pur- 
pose of replacing an asset, is a direct charge against profit, thus illustrating 
the profound distinction in principle between the two propositions men- 
tioned. 

Again, this question may be raised : In repaying a liability on the Sink- 
ing Fund plan, why not make direct annual Cash investments outside the 
business to meet said liability at maturity, without any charge against 
Profit and Loss Account at all? 

The answer would probably be this : In such a case the balance of the 
Profit and Loss account would appear out of all proportion to the amount 
of profits which it would be prudent to distribute. 

Furthermore, a judicious and conservative management would mili- 
tate against the distribution of the whole or greater portion of the profits, 
while at the same time making annual Cash investments, without forming 
a Sinking Fund for the redemption of the liability; such operations would 
seriously affect the financial position of the business. 



PARTNERSHIP ACCOUNTS. 

Problem No. 1. 

The following proposition is one set by the Pennsylvania State Board 
of Examiners, whose requirements are of the highest order and not sur- 
passed by any other State Board in the country. 

Question. — A is a manufacturer of carpets and his balance sheet at 
a certain date shows as follows : 

ASSETS. 

Cash in bank $ 815.00 

Real Estate, appraised value 20,000.00 

Machinery, after 10 per cent depreciation 40,000.00 

Book Accounts, receivable 7,227.50 

Inventory: 

Stock finished 11,000 00 

Stock in looms 850.00 

Raw material and supplies 107.50 

$80,000.00 

LIABILITIES. 

Bills payable . $22,000.00 

Book accounts payable 28,000.00 

He agrees with B to sell him one-half interest in the business for the 
sum of $20,000.00 to be contributed to new firm, the new firm to take the 
assets of A, with the exception of Real Estate, and assume all liabilities, 
and that the good will of the business of A should be rated at $20,000 in 
the new books. It was discovered shortly after the commencement of 

54 



PRACTICAL ACCOUNTING 

business of the new firm that the inventory of finished stock was incor- 
rect, and that the value should have been stated at $8,500 instead of $11,000, 
and that of the book accounts receivable only $6,227.50 were collectable, 
one of the debtors owing $1,000 having failed and absconded, leaving no 
assets, previous to the formation of the partnership ; which fact was known 
to A, and his bookkeeper had been instructed to charge off the account but 
failed to do so. No correction was made of these discrepancies, and the 
trial balance at the end of the year's business showed as follows : 

A— Capital Account $ 25,000.00 

B— Capital Account 25,000.00 

A — Personal Account $ 3,100.00 

B— Personal Account .' 3,100.00 

Merchandise 78,000.00 

Book Accounts Receivable 15,400.00 

Expense 1,500.00 

Machinery 40,000.00 

Manufacturing Expense 22,000.00 

Wages 44.000.00 

Rent 1,500.00 

Profit and Loss 600.00 

Book Accounts Payable 45,200.00 

Cash 22,000.00 

Good Will . . 20,000.00 

$173,200.00 $173,200.00 

The inventory at close of year footed up : 

Finished Work $ 28,000.00 

Stock in Looms 1,500.00 

Raw Material and Supplies 1,500.00 $ 31,000.00 

No amount has been charged off for depreciation of machinery, which 
should be 10 per cent. Make proper entries to correct books, and formu- 
late balance sheet showing the standing of the firm, and give reasons for 
any corrections that may be made. 

Comments. 

W r e find in this question a very interesting state of affairs, and though 
it is not a difficult question it is one that should prove the candidate's ability 
in adjusting, especially when the short time limit for each answer is taken 
into consideration. For the young accountant there is probably no other 
line of accountancy work that will give so much scope for study and 
analytical drill as the investigation and adjustment of partnership relations. 
Partnership affairs present so many varying conditions and such a variety 
of interesting problems, that a mastery of same is not only advised but 
almost a necessity to the person who would succeed as an accountant. 

Before undertaking any adjustment, audit, or appointment, the book- 
keeper or accountant should make a careful survey of the field of work to 
be covered, and before commencing the work should have a carefully out- 

55 



C. P. A. QUESTIONS AND ANSWERS 

lined plan of procedure in order that no time may be wasted while per- 
forming the work and to prevent any point being overlooked which is 
entitled to consideration. The points requiring attention should be noted 
in the order of their importance and nothing should be overlooked that is 
in any way in need of inspection or adjustment. 

In the question under review we have a case where the proprietor is 
to admit a partner who upon payment of $20,000 into the hrm is to have 
a half interest in the business and an equal share in future profits. The 
question does not. state that an equal division of profits is to be made, but 
this is no doubt implied, and without specific directions as to the sharing 
of profits an equal division is usually made. The business has evidently 
been established for some time, since A is claiming a good will of $20,000. 
Without specific information as to past profits and present conditions this 
amount seems somewhat exorbitant, especially when we note that the Real 
Estate is to be held out of the transaction and that A's net capital will only 
be $10,000. Of course this is a matter which does not concern the account- 
ant, since arrangements on all matters have been satisfactorily completed 
between A and B. When the profits of the succeeding year are consid- 
ered, however, it can be seen that the business is a profitable one. The 
Real Estate is owned by A, but is evidently to be used by the firm in 
order to carry on operations, this fact being verified by the payment of 
rent during the year. A's net capital, which is now $10,000, plus good 
will $20,000, gives him a capitalization of $30,000; to this add B's contribu- 
tion of $20,000, making the firm's capital $50,000, of which each partner is 
to have one-half, $25,000. For the payment of $20,000, A is voluntarily to 
reduce his capital to $25,000. If A had considered his good will worth 
only $10,000, thereby bringing his capital to $20,000, and then had credited 
B for his investment of $20,000, it would have done just as well ; each would 
have received subsequent profits just as rapidly, and they would still have 
equal investments. For appearance no doubt they mutually decided to 
reckon good will as $20,000, as the amount selected now may be an index 
to future anticipations in providing a larger plan of operations. Indeed, the 
increase or decrease of the amount of good will has no effect on the stand- 
ing or profits of the business, but is usually considered only when the sale 
or incorporation of a concern is under consideration or when published 
statements are required. As a matter of fact good will could have been 
omitted entirely without disadvantage to either party, in which case B 
would pay in his $20,000 as stated, but would receive credit for only $15,000. 
The additional $5,000 would then go to the credit of A, after which they 
would each have an investment of $15,000. I mention this method simply 
to indicate that the consideration of good will in many cases is more for 
appearance than for financial reasons. 

The errors under consideration are large in comparison with A's net 
investment and would reduce his capital to the extent of $3,500. The 
entries to adjust them are shown below. It is a principle in partnership 
relations that the investment of a partner is to be made good by him in 
case of shrinkage in value or loss in realization of assets to an extent affect- 
ing his investment. A must make this amount good by an additional 
investment, or else receive future profits in accordance with his reduced 

56 



PRACTICAL ACCOUNTING 

capital. The fact that the bookkeeper erred is no excuse and only indicated 
a degree of carelessness on the part of both employer and employe. As the 
books now stand, Inventory account has a debit of $2,500 too much and 
Accounts Receivable $1,000 too much. These accounts must receive credit 
for the respective amounts and A is to be charged with same. After these 
entries are made, Accounts Receivable will be reduced to $14,400, and the 
credit to merchandise will be increased to $80,500. The vague appearance 
of a Merchandise account, with its meaningless credit balance of $78,000, 
shows clearly the careless methods of bookkeeping used by the firm. No 
doubt stock of all kinds, whether finished or unfinished, has been dumped 
into this account, and it is painfully evident that purchases, sales, returns, 
allowances, discounts and inventories have been thrown into one account, 
thereby making it a heterogeneous mass of figures. However, in an actual 
investigation it is the duty of the accountant to separate the several 
amounts to the best of his ability in order to present to his client a true 
statement. In this account we have only the credit balance to guide us and 
mut be content with it. The gross gain of $45,500 is found by deducting 
the wages and manufacturing expenses from the credit balance of Mer- 
chandise account after the error of $2,500 and the present Inventory of 
$31,000 have been added. From this deduct other expenses, etc., and we 
have a net gain of $37,900, as shown in the balance sheet. The balance 
sheet shows the analysis of each partner's account, but if desired, a separate 
statement may be made for these details, in which case the balance sheet 
would show totals only. All profits and withdrawals have been adjusted 
into the capital accounts, but in practice this is not always done. Many 
prefer to leave the investments intact in the capital accounts and then make 
all adjustments of gains, withdrawals, etc., in the private accounts.- If this 
plan had been followed in the present case, A's private account would 
show a credit balance of $12,350, and B's a credit balance of $15,850, and 
the investment accounts would remain as they now appear in the trial 
balance. 



BALANCE SHEET. 
A and B, as on December 31. 

ASSETS. 

Book Accounts Receivable $15,400 

Less loss charged to A 1,000 $ 14,400 

Stock and Material : 

Finished Stock 28,000 

Stock in looms ., 1 ,500 

Raw material and supplies 1,500 31,000 

Machinery 40,000 

Less depreciation, 10 per cent 4,000 36,000 



57 



C. P. A. QUESTIONS AND ANSWERS 

Cash on hand 22,000 

Good will 20,000 



$123,400 



LIABILITIES. 

Book accounts payable $ 45,200 

Capital Accounts : 

A's investment $25,000 

Add y 2 net profits 18,950 

$43,950 
Deduct : 

Shrinkage of assets $3,500 

Drawings 3,100 6,600 

A's present capital 37,350 

B's investment 25,000 

Add y 2 net profits 18,950 

$43,950 
Deduct : 
Drawings 3,100 

B's present capital 40,850 



$123,400 



Note. — Entries for closing the books, etc., are omitted as being un- 
necessary in answering the question. 

Problem No. 2. 

The co-partnership of Kimball, Bagley and Pettey find they have mer- 
chandise on hand December 31st that cost $8,724 and is inventoried by 
them at 10 per cent advance ; they also have unexpired premiums on insur- 
ance amounting to $46.75, and accrued interest on notes receivable amount- 
ing to $232.40 not entered on the books ; and owe interest on note for $4,000 
for nine months at 5 per cent, payable to William C. Bagley. The articles 
of co-partnership agreement provide that 4 per cent shall be paid each 
partner on his investment, and in event of partners drawing for personal 
use they are to pay 6 per cent for such money so drawn, using average date. 
Profits are to be divided in the following proportion : Jas. H. Kimball, 45 
per cent ; William C. Bagley, 32 per cent ; George R. Pettey, 23 per cent. 

The trial balance of the firm and its partners' accounts on the books 
afe as follows : 

Dr. Cr. 

Jas. IT. Kimball Investment Account $ 12,675.00 

Wm. C. Bagley Investment Account 9,410.15 

Geo. R. Pettey Investment Account 8,011.05 

Merchandise $ 40,425.00 

58 



PRACTICAL ACCOUNTING 

Expense 1,147.26 

Insurance 162.50 

Freight, Cartage and Express 7,458.98 

Salaries ,; 4,000.00 

Clerk Hire 2,250.00 

Telegraph and Telephone 311.44 

Accounts Receivable 27,816.42 

Notes Receivable 8,640.00 

Notes Payable , 10,000.00 

Accounts Payable 2,692.65 

Interest and Discount 1,118.36 

Jas. H. Kimball Drawing Account 3,750.00 

Wm. C. Bagley, Drawing Account 1,000.00 

Geo. R. Pette) r Drawing Account 1,425.00 

Returns and Allowances 1,186.79 

Sales 57,551.00 

Cash 1,648.10 

$101,339.85 $101,339.85 



Jas. H. Kimball, Drawing Account — Dr. Cr. 

March 10th, withdrew $1,650.00 

June 22d, withdrew 1,725.00 

July 15th, paid in $3,000.00 

October 1st, withdrew 2,000.00 

Nov. 1st, withdrew 1,000.00 

Dec. 29th, withdrew 375.00 

Wm. C. Bagley, Drawing Account — 

Tune 1st, withdrew ■ 2,000.00 

Sept. 20th, withdrew 1,000.00 

Dec. 1st, paid in 4,000.00 

Geo. R. Pettey, Drawing Account — 

April 1st, withdrew .$ 356.25 

July 1st, withdrew 356.25 

Oct. 1st, withdrew 356.25 

Dec. 31st, withdrew 356.25 

Prepare from the foregoing an income account and balance sheet. 

SOLUTION. 
Trading Account, December 31st. 

Merchandise $40,425.00 Sales $57,551.00 

Insurance $162.50 Less 

Less unexpired 46.75 Interest and 

115.75 Disc'nts .$1,118.36 

Freight, Cartage and Express. 7,458.98 Returns and 

Allow- 

$47,999.73 ances .... 1,186.79 

Less— • 2,305.15 

Stock in Trade 9,596.40 $55,245.85 



Cost of Goods Sold 38,403.33 

Gross Profits 16,842.52 



$55,245.85 $55,245.85 



59 



C. P. A. QUESTIONS AND ANSWERS 

PROFIT AND LOSS ACCOUNT. 
Section I. 



Expenses $ 1,147.26 

Salaries 4,000.00 

Clerk Hire 2,250.00 

Telephone and Telegraph 311.44 

Interest on Bills Payable, ac- 
count Bagley 150.00 



$ 7,858.70 
Ordinary business profits car- 
ried down to Section II 9,216.22 



$17,074.92 



Balance (being Gross Profits 

carried down) $16,842.52 

Interest on Bills Receivable... 232.40 



,$17,074.92 



Appropriations: 
Reserve for bad debts, 3%. 
Reserve for 10% advance on 

inventory values 

Interest on Capital at 4%.. 
Kimball's capital 

account $507.00 

Kimball's fresh 

investment .... 56.40 

$563.40 

Bagley's capital 

account $376.06 

Bagley's fresh 

investment .... 13.60 



389.66 

Petey's capital account.. 320.44 



Section II. 
Net Profits. 



$ 834.50 

872.40 
1,273.50 



Net Profits : 6,532.64 

Kimball. 45% $2,939.69 

Bagley, 32% 2,090.44 

Pettey, 23%. 1,502.51 



$ 9.513.04 



Balance down from Section I..$ 9,216.22 
Interest on Drawings: 

Kimball $176.85 

Baglev 87.90 

Pettey 32.07 

296.82 



$ 9,513.04 



INTEREST CALCULATIONS. 

Interest on Partners' Drawings. 
Kimball. 
Focal Date March 1. 
March 10— 10 days X 1650 = 16500 
June 22—113 days X 1725 = 194925 
Oct. 1—214 days X 2000 = 428000 
Nov. 1—245 days X 1000 = 245000 
Dec. 29—303 days X 375 = 113625 



6750 998050 
998050^-6750=148 days from March 1 = July 27, and 

July 27 to Dec. 31 = 157 days; 6% p. a. on $6,750= $176.85 

INTEREST ON NEW INVESTMENTS. 
Kimball. 

July 15 — $3,000 to Dec. 31 = 169 days, 4% p. a. = $56.40 

Bagley. 

December 1— $4,000r 31 days at 4% p. a. =$13.60 



60 



PRACTICAL ACCOUNTING 

BALANCE SHEET, AS AT DECEMBER 31. 

Cash $ 1,648.10 Notes payable . '. $10,000.00 

Accounts receivable. .$27,816.42 Accounts payable 2,692.65 

Less reserve for bad 

debts 834.50 CAPITAL ACCOUNTS. 

26,981.92 

Notes receivable, all good 8,640.00 Kimball $12,675.00 

Interest on same 232.40 Ac |^77 . k,,™„ 

Stock in trade $9,596.40 45% prohts. $2,939.69 

T i^s reserve 87? 40 4 % interest. 563.40 

8,724.00 Paid in 3,000.00 6,503.09 



Fire Insurance, unexpired 46.75 



$19,178.09 

Drawings .. 6,750.00 

6% interest. 176.85 6,926.85 12,251.24 





9,410.15 


Add— 




32% profits. 


2.090.44 


4% interest. 


389.66 


Interest on 




loan 


150.00 


Paid in 


4,000.00 6,630.10 




$16,040.25 


Less — 




Drawings.. . 


3,000.00 


6% on draw- 




ings 


87.90 3,087.90 12,952.35 



Pettey 8,011.05 

Add— 

23% profits. 1,502.51 

4% interest. 320.44 1,822.95 



9,834.00 
Less — 
Drawing acct. 1,425.00 
6% interest 
on same... 32.07 1,457.07 8,376.93 



5.273.17 $46,273.17 



Problem No. 3. 

A partnership on equal terms between A and B is dissolved July 1, 
1907, the books on that date showing the following: • 

A's capital paid in was $16,000, and his drawings were $3,500. 

B's capital paid in was $2,000, and his drawings were $1,500. 

Goods purchased, $50,000; sales, $40,000; business expenses, $1,800. 
A loss of $1,600 was made on a $5,000 consignment of goods to Liverpool. 

In the settlement A agrees to pay P> an old debt of $3,500. 

Prepare requisite accounts, and show final balance payable by one 
partner to the other. 

SOLUTION. 
Balance Sheet at Beginning of Partnership. 

Assets $18,000.00 A's capital 16,000.00 

B's capital 2,000.00 



01 



C. P. A. QUESTIONS AND ANSWERS 

' Trading Account. 

Purchases $50,000.00 Sales $40,000.00 

Loss on consignment 1,600.00 Consignment 5,000.00 

Loss in trading 6,600.00 



$51,600.00 $51,600.00 



Profit and Loss Account. 

Balance from trading account. .$6 600.00 A's capital, V 2 $ 4,200.00 

Expenses 1,800.00 B's capital, y 2 l ... 4,200.00 



Net loss $ 8,400.00 $ 8,400.00 



Cash Account. 

A's capital $16,000.00 Purchases $50,000.00 

B's capital 2,000 00 Expenses 1,800.00 

Sales 40,000.00 A's drawings 3,500.00 

Consignments $5,000.00 B's drawings 1,500.00 

Losses 1,600.00 3,400.00 Balance 4,600.00 



$61,400.00 $61,400.00 

On hand $ 4,600.00 

A's Capital. 

Drawings $ 3,500.00 Investment $16,000.00 

One-half loss 4,200.00 

To B, old debt 3,500.00 

Balance 4,800.00 



$16,000.00 $16,000.00 



Balance $ 4,800.00 

B's Capital. 

Drawings $ 1,500.00 Investment 2,000.00 

One-half loss 4,200.00 From A, old debt 3,500.00 

Balance 200.00 



$ 5,700.00 - $ 5,700.00 



Balance $ 200.00 

Final Balance Sheet. 

Cash $ 4,600.00 A 4,800.00 

B 200.00 



A takes all cash on hand, $4,600. Besides which B should pay A $200. 

Problem No. 4. 

A and B, partners in a mercantile business, share profits and losses 
equally. At the end of five years the partnership terminates by limitation 
and the balance sheet shows the following: 

ASSETS. LIABILITIES. 

Plant' and Machinery $15,400.00 Creditors $30,000.00 

Inventory 36,000.00 Bills payable 10,000.00 

Accounts receivable 28,000.00 Capital: 

Cash in bank 5,600.00 A $30,000.00 

B 15,000.00 45.000.00 



$85,000.00 $85,000.00 



62 



PRACTICAL ACCOUNTING 

Subsequently the business as it stands (except cash in bank) is sold 
for $30,000. Make final adjustments and closing entries, and show the 
amount each partner receives. 

SOLUTION. 
Journal Entries. 

1. 

Realization and liquidation account $79,400.00 

To plant and machinery $15,400.00 

To inventory 36,000.00 

To accounts receivable 28,000.00 

(To close ledger accounts.) 

2. 

Creditors $40,000.00 

To realization and liquidation account $40,000.00 

(To close open ledger accounts.) 

3. 

A's capital $4,700.00 

B's capital 4,700.00 

To realization and liquidation account $ 9,400.00 

(Partners' losses equally divided.) 

Realization and Liquidation Account. 

Assets $79,400.00 Liabilities $40,000.00 

Except cash $5,600.00 Per balance sheet. 

Cash 30,000.00 

Loss on realization... $9,400.00 



A y 2 share $4,700.00 

B y 2 share 4,700.00 9,400.00 



$79,400.00 $79,400.00 



A's Capital. 

y 2 loss on realization $ 4,700.00 Investment $30,000.00 

Cash 25,300.00 



$30,000.00 $30,000.00 



B's Capital. 

y 2 loss on realization $4,700.00 Investment $15,000.00 

Cash 10,300.00 



$15,000.00 $15,000.00 



Cash Account. 

On hand $ 5,600.00 A's capital $25,300.00 

Realization and loss account. .. 30,000.00 B"s capital 10,300.00 



$35,600.00 $35,600.00 

63 



C. P. A. QUESTIONS AND ANSWERS 



Problem No. 5. 



Messrs. Sharp & Flat, partners, engaged in manufacturing, decide to 
form a business corporation under the laws of New York, under the name 
of the Sharp & Flat Manufacturing Company, having an authorized capital 
of $100,000. The corporation, in consideration of the entire issue of capital 
stock, purchased all of the assets and assumed all of the liabilities of the 
partnership, as shown by the following balance sheet, dated May 31, 1912. 
Sharp & Flat take all the stock except five shares, par value $100 each, 
issued to incorporators for cash subscriptions. 

Balance Sheet, May 31, 1912. 

Assets. 

Plant and machinery $35,000 

Stock on hand, per inventory 20,525 

Accounts receivable 22,750 

Bills receivable 1 ,500 

Cash 5,225 

Total assets $85,000 

Liabilities. 

Sharp's capital $42,500 

Flat's capital 36,300 

Accounts payable 5,250 

Bills payable 700 

Wages due and unpaid 250 

Total liabilities $85,000 

During the first year of the corporation's existence the books were kept 
in the same manner as during the partnership. Soon after the end of the 
first fiscal year, however, a certified public accountant was presented with 
the following trial balance, showing the condition of the books on May 31, 
1913, and was requested to open a new set of books for the corporation, 
covering the operations of the business during the past year, and to prepare 
therefrom an income and profit and loss account and balance sheet. 

Trial Balance, May 31, 1913. 

Sharp's capital $ 42,500 

Flat's capital 36,300 

Plant and machinery $ 37,500 

Stock on hand, May 31, 1912 20,525 

Sales 131,405 

Purchases : Materials and supplies 48,000 

Labor 34,500 

Office salaries 7,000 

Traveling expenses 2,400 

Interest 600 

64 



PRACTICAL ACCOUNTING 

Stationery and printing 175 

Rent and taxes '. 4,200 

Discounts and allowances 2,250 

Fuel 4,600 

Insurance. 175 

Freight (inward) 1,750 

Commission 6,375 

Advertising ; 500 

Bills receivable 6,115 

Bills payable 1,100 

Accounts receivable 36,115 

Accounts payable 7,850 

Cash 6,375 



$219,155 $219,155 



Draft the opening journal entries necessary to give effect to the above, 
prepare an income and profit and loss account and a balance sheet as at 
May 31, 1913. 

Write off : 

(a) Depreciation 5 per cent on plant and machinery. 

(b) Unexpired insurance, $75. 

(c) Account bad debts, $325. 

(d) Inventory, stock on hand, May 31, 1913, $19,605. 



SOLUTION. 
* . Opening Entries, as at May 31, 1912. 

1. 

Subscription account $100,000 

To capital stock $100,000 

Full authorized issue of 1,000 shares at $100: 
Sharp and Flat, 995 shares. 
Five incorporators, 5 shares. 

2. 

Plant and machinery $ 35,000 

Stock on hand 20,525 

Accounts receivable 22,750 

Bills receivable 1,500 

Cash 5,225 

Good will 20,700 

$105,700 

65 



C. P. A. QUESTIONS AND ANSWERS 

To accounts payable $ 5,250 

To bills payable 700 

To labor 250 

To subscription 99,500 



$105,700 

Assets and liabilities of Sharp and Flat turned over to The Sharp and 
Flat Mfg. Co. in payment of suscribed stock. 

3. 
(Covering the operation of the business during the past year:) 

Plant and machinery $ 2,500 

Purchases, materials and supplies 48,000 

Labor 34,500 

Office salaries 7,000 

Traveling expenses 2,400 

Interest 600 

Stationery and printing 175 

Rent and taxes 4,200 

Discounts and allowances 2,250 

Fuel 4,600 

Insurance 175 

Freight (inward) 1 ,750 

Commission 6,375 

Advertising 500 

Wages, old firm ' 250 

Bills receivable, increase 4,615 

Accounts receivable, increase 13,365 

Cash .• 1,150 

$134,405 

To sales $131,405 

To bills payable, increase 400 

To accounts payable, increase 2,600 

$134,405 

Income Account. Manufacturing Section. 

1. 

Prime Cost. 

Stock on hand, May 31, 1912 $20,525 

Purchases 48,000 

Labor 34,500 

Freight (inward) 1,750 

: $104,775 

66 



PRACTICAL ACCOUNTING 



2. 
Works on Cost. 

Rent and taxes $ 4,200 

Fuel i 4,600 

Insurance ". 100 

Depreciation 1,8/5 



Cost of production carried to Trading Section. . 

Trading Account. 

Cost of production $115,550 Sales 

Commission $ 6,375 Less discounts 

Advertising 500 

Traveling expenses 2,400 

9.275 



■$ 10,775 
$115,550 



Less stock on hand. 



$124,825 
19,605 



Cost of merchandise sold $105,220 

Gross profits 23,935 



$129,155 



Office salaries $ 7,000 

Stationery and printing 175 

Bad debts 325 

Ordinary business profits 16,435 



Profit and Loss Account. 

Gross profits 



Interest 

Net profits (to surplus 
account) 



$ 23,935 
$ 600 

15.835 
$ 16.435 



Balance 



.$131,405 
2,250 



$129,155 



$129,155 



$ 23,935 



$23.935 
$ 16,435 



$ 16,435 



Balance Sheet as at May 31, 1913. 



Current Assets. 

Cash $ 6,375 

Bills receivable 6,115 

Accts. receivable.. .$36,115 
Less bad debts.... 325 

35,790 

Subscription account .... 500 
Merchandise on hand.... 19,605 
Unexpired insurance .... 75 



$ 68,460 



Fixed Assets. 

Plant and machinery $37,500 

Five per cent depreciation. . 1,875 



Good will 



$35,675 
. 20,700 56,325 

$124,785 



Current Liabilities. 

Bills payable $ 1,100 

Accounts payable 7,850 



$ 8,950 



Capital. 

Capital stock $100,000 

Surplus 15,835 



$115,835 



$124,785 



67 



C. P. A. QUESTIONS AND ANSWERS 

Comments. 

The question of $500 cash subscriptions is obscure. The problem 
states definitely that "Sharp & Flat take all stock, except five shares, par 
value $100 each, issued to incorporators for cash subscriptions." 

The books are silent on the treatment of these subscriptions. What 
became of them? Pending- an explanation, they must remain on the cor- 
poration books as a suspended asset. 

Next, we turn our attention to the division of the value of the good 
will. On what basis should it be distributed among the partners? It does 
not represent a profit ; it is an additional asset, an increase to the partners' 
capital, which at the time of incorporation aggregated $99,500, the amount 
paid for the stock in the new company. The division should therefore be 
made in proportion to the partners' respective interests, thus : 
Sharp 425/788 of 99500 = $53,664 = 536.64 shares. 
Flat 363/788 of 99500 = $45,836 = 458.36 shares. 



995. shares. 

Problem No. 6 (Merging Partnerships). 
Thomas Jones and William Thompson are trading in partnership as 
wholesale grocery merchants, sharing profits equally. On January 1st, 
1912, their balance sheet is as follows: 

A Q^Pt^ T 1 3 n 1 1 1 1"1 ^*^ 

Stock in trade ' $27,245 00 Bank of B. N. A . .' $10,000.00 

Furniture 2,752.00 Creditors 27,528.00 

Debtors 37,625 00 Jones 25,243.00 

Cash 752.00 Thompson 10,603.00 

Good will 5,000.00 



$73,374.00 $73,374.00 



An agreement is made to amalgamate with Joseph Smith and George 
Brown, also trading in partnership, and sharing profits respectively 2 /$ 
and ]/i. Their balance sheet as on January 1st is as below: 
Assets. Liabilities. 

Stock in trade '...$35,424.00 Creditors $35,818.00 

Furniture 3,840.00 Smith 22,176.00 

Debtors 42,741.00 Brown 27,426.00 

Bank of Toronto 3,415.00 



$85,420.00 $85,420.00 



A company is formed to take over the business, under the name of 
Smith, Jones & Company, Limited, with authorized capital $200,000.00, 
divided into 2,000 common shares of $100.00 each. George Wilkins, John 
Lister and Robert Ryder subscribe for 20 shares each, for which they 
pay cash. 

The Jones and Thompson business is taken over at book figures, 
except that good will is raised to $10,000.00 and $1,000.00 is set up as a 
reserve for doubtful debts. The Smith and Brown business is taken as 
shown, with an addition of $15,000.00 for good will and $1,500.00 reserve 
for doubtful debts. The partners in the two businesses are to take shares 

GS 



PRACTICAL ACCOUNTING 

for their interests, making up an even amount by paying cash if required. 
All cash is deposited in the Bank of British North America. 

Show by means of journal entries the various transactions incident 
to taking over the businesses and allotment of shares, giving the number 
of shares allotted each party, and make out the balance sheet of .Smith, 
Jones & Co., Ltd. 

Comments. 

This question is one of six given on Paper 1 of the Final Examination 
of the Manitoba and Alberta Chartered Accountants, all of which were to 
be completed in three and one-half hours. A second paper was given on 
general problems and cost accounts, and it also contained six questions 
and had to be worked in the same time limit. While none of the problems 
seemed hard, yet they were comprehensive and covered the ground quite 
satisfactorily when we consider the limited time in which they were to 
be completed. The question selected for illustration is by no means the 
hardest of those given on the examination, yet it contains enough inter- 
esting matter to justify its use. Two different firms are to amalgamate 
and become incorporated under the name of Smith, Jones & Company, 
Limited, with an authorized capital of $200,000. In Canada, the word 
"Limited" is required to form a part of the corporate name. It will be 
noticed that the new corporate name contains also the word "Company," 
but this is not a necessity. The name could have been Smith & Jones, 
Limited, had they so desired. The bookkeeping entries are asked for, but 
in making them there are no specially difficult points involved. They are 
therefore given below in the order in which they would appear on 
the Journal of the new corporation. We are asked for the Journal entries 
illustrating the transition which are taken to mean the entries required on 
the books of the corporation ; but it is obvious that adjusting and closing 
entries are also necessary on the books of each firm at the time of sale 
to the company. 

The capital of each firm is increased by the consideration of good will 
and then lessened by an allowance for doubtful debts. Since the problem 
states just how the partners are to divide profits, we are safe in assuming 
that the good will is to be apportioned in like manner, also the deduction 
for doubtful debts. This reasoning does not hold true in every case, how- 
ever, because good will is more of a capital increase than an increase of 
profits and, therefore, might be divided in proportion to the partners' in- 
vestments. Of course, in the present case, and even in any case where 
the capital of the proprietors is constantly changing because of added 
profits and deductions for withdrawals, the capital cannot easily be taken 
as a basis for apportioning the good will or eA^en the profits. It will be 
seen that the capital of the proprietors, after making adjustments, stands 
as follows : Jones, $27,243 ; Thompson, $12,603, making a total of $39,846. 
Smith. $31,1/6; Brown, $31,926, making a total of $63,102. Each of the 
partners is to be charged with even shares of stock in the new company 
and therefore will be required to make a cash payment to equalize his 
credit. Capital adjustments are as follows: 

69 



C. P. A. QUESTIONS AND ANSWERS 

Jones & Thompson. 

Jones' net capital $25,243.00 

Add y 2 good will 2,500.00 

$27,743.00 

Less l / 2 reserve for doubtful debts 500.00 

Present net capital $27,243.00 

Thompson's net capital . , $10,603.00 

Add ]/ 2 good will 2,500.00 

$13,103.00 

Less l / 2 reserve for doubtful debts 500.00 

Present net capital * 12,603.00 

Net capital of firm $39,846.00 

Smith & Brown. 

Smith's net capital $22,176.00 

Add y z good will 10,000.00 

$32,176.00 

Less 2 /z reserve for doubtful debts 1 ,000.00 

Present net capital $31 ,176.00 

Brown's net capital $27,426.00 

Add y 3 good will 5,000.00 

$32,426.00 

Less Yi reserve for doubtful debts 500.00 

Present net capital 31,926.00 

Net capital of firm : $63,102.00 

Equalizing Subscription Payments. 

By Jones . . $ 57.00 

By Thompson 97.00 

By Smith 24.00 

By Brown 74.00 

Total $252.00 

All cash is to be deposited in the Bank of British North America, thus 
necessitating a withdrawal from the Bank of Toronto and the deposit of 
all cash on hand. The bank balance after incorporation amounts to $10,- 
419.00. This is more than enough to pay the loan of $10,000 owing to the 
Bank of British North America, but it is a question as to whether or not 
the loan should be liquidated at this time. Undoubtedly expenses of incor- 
poration will have to be paid, and if the loan were paid off at the same 
time the funds would be reduced below the amount necessary for general 
business requirements. It is true, of course, that a new loan could be 

70 



PRACTICAL ACCOUNTING 

made, but in any case it is probable that one or two of the directors would 
have to become responsible indorsers. The note now held by the bank 
is no doubt indorsed by both Jones and Thompson. The reserve for bad 
debts should be shown as a credit in the ledger account though deducted 
from the accounts receivable on the Balance Sheet itself. 

The entries given herewith show the various steps so clearly that 
additional comments are unnecessary. Instead of bringing the accounts 
of each firm onto the corporation books separately as shown, the amounts 
could have been amalgamated into one journal entry. It will be noted that 
an account has been opened for Unissued Stock, though on the Balance 
Sheet it is shown as a deduction from the authorized capital. 

In addition to the work required on the problem itself, there are other 
steps necessary in the incorporation of a going concern or of two or more 
going concerns such as illustrated in this example. The interested parties 
usually enter into a preliminary agreement to incorporate and to amalga- 
mate their interests. This agreement generally specifies the conditions 
under which they are to combine their interests as well as the status of 
each partner after incorporation. After interesting sufficient outside capital 
and securing the required number of incorporators (five are required in 
Canada), application for Letters Patent is made to the Provincial Secre- 
tary. When this is received the organization meeting is held, at which 
time each of the old firms offers to exchange entire assets and liabilities 
for an equivalent amount of the capital stock of the new company, which 
amount has already been subscribed for by the partners themselves. The 
proposition is usually accepted by the stockholders and then referred to 
the board of directors to be carried out. At the first meeting of the 
directors, the property is accepted and the required amount of capital 
stock issued in exchange therefor. All personal property must be trans- 
ferred to the new company by bill of sale, and of course all negotiable 
paper must be indorsed. Non-negotiable instruments, including insurance 
policies, contracts, etc., are transferred by assignment, and attention must, 
of course, be given all other necessary legal requirements. In the incor- 
poration of a company, it is always advisable to have the advice of a com- 
petent attorney so that everything may be done in order and according 
to law. 

SOLUTION. 

Journal Entries. On Books of the Corporation. 
Jan. 1, 1912. 

(1) Unissued Stock $200,000.00 

To Capital Stock $200,000.00 

For incorporation of Smith, Jones & Company, Limited, with an 
authorized capital of $200,000, being 2,000 shares of $100 each, organ- 
ized to take over as going concerns the business, assets and liabilities 
of Jones & Thompson and of Smith & Brown. 

(2) Jones 273 shares $27,300.00 

Thompson 127 shares 12,700.00 

Smith 312 shares 31,200.00 

71 



C. P. A. QUESTIONS AND ANSWERS 

Brown 320 shares 32,000.00 

Geo. Wilkins 20 shares 2,000.00 

John Lister 20 shares 2,000.00 

Robert Ryder . . 20 shares 2,000.00 

To Unissued Stock $109,200.00 

The above named persons have subscribed for the number of 
shares of the capital stock of the company set opposite their respective 
names, per subscription list and articles of incorporation. To be paid 
for at once as shown below : 

(3) Cash $6,000.00 

To George Wilkins $2,000.00 

To John Lister 2,000.00 

To Robert Ryder 2,000.00 

For payment of subscriptions to stock of the company. 
The accounts are arranged in the following journal entries in the order 
in which they shall be placed in the ledger. Instead of opening accounts 
for the partners, the net capital as shown below could have been credited 
to Jones and Thompson. In that case the subscription to stock, as shown 
above, would be changed from the individual names to the firm name of 
Smith & Brown. 

(4) Cash $ 752.00 

Debtors 37,625.00 

Stock in Trade 27,245.00 

Furniture 2,752.00 

Good will 10,000.00 

To Bank of B. N. A $10,000.00 

To Creditors 27,528.00 

To Reserve for doubtful debts 1,000.00 

To Jones 27,243.00 

To Thompson 12,603.00 

For the assets and liabilities of Jones and Thompson taken over 
this day in payment of subscriptions to stock, per agreement and per 
resolution of stockholders. 

(5) Cash $ 3.415.00 

Debtors 42,741.00 

Stock in Trade 35,424.00 

Furniture . . 3,840.00 

Good will ..., 15,000.00 

To Creditors . . .: $35,818.00 

To reserve for doubtful debts 1,500.00 

To Smith 31,176.00 

To Brown 31,926.00 

For the assets and liabilities of Smith and Brown taken over in 
payment of stock subscriptions, per resolutions of the stockholders 
and board of directors. 

72 



PRACTICAL ACCOUNTING 

(6) Cash , $252.00 

To Jones ' $57.00 

To Thompson 97.00 

To Smith 24.00 

To Brown 74.00 

For payment of balances due on subscriptions to stock, being the 
amounts required in excess of the net assets turned over by the old 
firms. 

On Books of Old Firms. 

The entries already given will open the books of the new company, 
and of course adjusting and closing entries are required on the books of 
each firm. We give as follows the entries on the books of Jones & Thomp- 
son. The entries for Smith & Brown would be practically the same. 

January 1, 1912. 

(7) Good will i $5,000.00 

To Reserve for doubtful debts $1,000.00 

To [ones 2,000.00 

To Thompson 2,000.00 

Agreement has been entered into this day to sell and transfer to 
the newly incorporated Smith, Jones & Company, Limited, the entire 
business, assets, liabilities, good will,, etc., of this firm for the sum of 
$39,846, to be paid in the shares of the new company. The shares 
are to be taken and apportioned in accordance with the capital of each 
partner after making an increase of $5,000 for good will and an allow- 
ance of $1,000 as a reserve for bad debts. 

The above entry is for adjustment. 

(8) Smith. Tones & Co., Ltd $39,846.00 

Bank of B. N. A '. . . 10,000.00 

Creditors 27,528.00 

Reserve for doubtful debts 1.000.00 

To Stock in Trade $27,245.00 

To Furniture 2,752.00 

To Debtors 37,625.00 

To Cash 752.00 

To Good will 10,000.00 

For the assets and liabilities of the firm turned over to Smith, 
Jones & Co., Ltd., in payment for 400 shares of stock, per agreement : 

(9) Jones $27,243.00 

Thompson 12,603.00 

To Smith, Jones & Co., Ltd $39,846.00 

To close out the capital accounts upon receipt of stock of the 

new company : 

Shares delivered to Jones 273 

Shares delivered to Thompson 127 

Cash was paid out of private funds for balance due on subscriptions 
to pay for even shares, by Jones, $57, and by Thompson, $97. 

73 



C. P. A. QUESTIONS AND ANSWERS 

Balance Sheet 

Smith, Jones & Company, Limited. 
At Date of Incorporation, May 1, 1912. 

. ASSETS. 

Deposit in Bank of B. N. A $ 10,419.00 

Debtors $80,366.00 

Less reserve for doubtful debts 2,500.00 

$ 77,866.00 

Stock in Trade 62,669.00 

Furniture 6,592.00 

Good will 25,000.00 

$182,546.00 

LIABILITIES. 

Bank Loan B. N. A $ 10,000.00 

Creditors 63,346.00 

Capital Stock : 

Authorized $200,000.00 

Unsubscribed 90,800.00 

109,200.00 

$182,546.00 



CORPORATION ACCOUNTING. 

Procedure in Incorporating. 

THE FOLLOWING is a brief outline of the official procedure in the 
incorporation of a company under Pennsylvania laws. With one or two 
exceptions the procedure in any other state would be the same. Presum- 
ing that all preliminary details have been agreed upon, the following steps 
are necessary : 

1. Execute agreement for incorporation in which the status of all 
interested parties is set forth. Phis includes all matters and agreements 
to be fulfilled later between the new company and the several individuals. 

2. Execute certificate of incorporation. 

3. Execute certified check for $30 in favor of Secretary of the Com- 
monwealth for Issue of Letters Patent. 

4. Execute certified check for $1,666.67 in favor of State Treasurer, 
for bonus of T / 3 % of $500,000. 

5. Publication of notice of intention to apply for charter. 

6. File certificate of incorporation, to remain during period of pub- 
lication with Secretary of Commonwealth. 

7. Recast balance sheets of firms to be incorporated, and show com- 
bined statement. 

8. Prepare set of by-laws to be presented at first meeting of stock- 
holders. 

9. Prepare special notice to be sent to all former customers and cred- 
itors giving notice of incorporation, to be sent on the day of incorporation. 

74 



PRACTICAL ACCOUNTING 

10. Prepare other forms and details necessary for use at the first 
meeting of stockholders, as blanks, stationery, rubber stamps, books, etc. 

11. Get seal and stock certificates made to order. 

12. File proof of publication of notice. 

13. Receive from Harrisburg letters patent and certificate of incor- 
poration. 

14. Record charter in office of Register of Deeds and pay fee of $2.50. 

15. Meeting of stockholders to confirm all business done. 

16. Call and waiver of notice of meeting to be executed. 

17. Reading and adoption of by-laws. 

18. Adoption of seal. 

19. Proposal of old firms to hand over partnership business in pay- 
ment of stock. 

20. Meeting of directors, and filing of call and waiver of notice. 

21. Receive proposition of old firm to turn over business as author- 
ized by stockholders. 

22. Execution of bills of sale and deed conveying all property, etc., 
to the new company. 

23. Acceptance of transfers of property, and authorization of issue of 
stock in payment. 

24. Official selection of depository and manner of handling funds, 
signer of checks, etc. 

25. Authorization of official stock certificate and issue of stock to all 
subscribers. 

26. Put impression of seal and copy of certificate in minute book. 

27 . Change bank account or name of same and execute new official 
signature. 

28. Provide new stationery for new company. 

29. Indorse over all negotiable papers. 

30. Assign all insurance policies, contracts, licenses, leases, etc. 

31. Secretary's oath, if necessary. 

32. Treasurer's bond, if required. 

33. Registration with auditor general. 

34. Write up minutes of stockholders' meeting. 

35. Write up minutes of directors' meeting. 

36. Open up new books for the company. 

37. Transaction of new business, etc. 

Problem No. 1. 

A CORPORATION is formed under the Laws of the State of Penn- 
sylvania with an authorized capital of $1,000,000 in 10,000 shares of a par 
value of $100 each. 

The date of charter is Jan. 1, 1912, at which time they start business 
with 5.000 shares subscribed for upon which a payment of 20 per cent has 
been made, the balance to be paid in monthly installments of 10 per cent 
on the first day of each succeeding month, the first installment being 
invested in plant. 

On Feb. 1, 1912, the corporation purchased the good-will, plant and 
assets of a manufacturing concern, doing the same kind of business, and 

75 



C. P. A. QUESTIONS AND ANSWERS 

assumed the liabilities of the same for 2,500 shares of the capital stock of 

the company, full paid and non-assessable. 

The floating assets of the purchased company were as follows : 

Book Accounts Receivable $15,000.00 

Bills Receivable , 18,000.00 

Material and Supplies 42,000.00 

The liabilities assumed consisted of: 

Book Accounts Payable $23,000.00 

Bills Payable 10,000.00 

On Feb. 1, 1912, the remaining 2,500 shares of the company were sold 

on the same terms as the 5,000 shares sold On Jan. 1, 1912. 

On July 1, 1912, a dividend of 5 per cent on par value of stock was 

paid to the stockholders of the company in proportion to their holdings. 

On Dec. 1, 1912, by resolution of the stockholders of the company it; 

was determined to purchase another concern in a similar business and 

issue bonds in payment thereof. 

The amount of bonds authorized to be issued were $1,000,000 and the 

price to be paid for the concern was $650,000 in bonds, bearing interest at 

5 per cent, dated Dec. 1, 1912. 

The new company to take over all the assets and assume all liabilities 

of the concern purchased. 
The assets consisted of: 

Book Accounts Receivable $50,000.00 

Bills Receivable 26,000.00 

Material and Supplies 82,000.00 

And liabilities were: 

Book Accounts Payable $5,200.00 

On Dec. 31, 1912, a dividend of 5 per cent on par value of stock was 

declared out of the earnings of the corporation, payable to the stockholders 

in proportion to their interests. 

During this year of their existence they purchased material and sup- 
plies : 

From sundry creditors to the amount of y{, .$1,650,000.00 

And for Cash <... 38.150.00 

They have paid for organization of the Company. . . . 3,800.00 

Counsel Fees .- 5,000.00 

Commissions 50,000.00 

Wages, including officers' salaries 626,100.00 

They have sold product to the amount of 2,400,000.00 

They have received in cash from sundry debtors.... 2.000,000.00 
They have accepted drafts drawn on them by sundry creditors for 

$1,450,000, of which amount $1,240,000 has become due and paid and have 

paid them in cash $50,000. 

The discount allowed sundry debtors was $18,250.00 

And the discount received from sundry creditors was. . 14,500.00 

It is determined to write off 5 per cent on plant valuation and $5,000 

for bad debts. 

The value of the stock of material and supplies on hand is $50,000. 

76 



PRACTICAL ACCOUNTING 

Make entries of cash showing cash transactions and prepare balance 
sheet on Dec. 31, 1912, giving your comments on same. 

SOLUTION. 

Opening Entries — Jan. 1, 1912. 

Subscribed Stock $500,000.00 

Unsubscribed Stuck 500,000.00 

To Capital Stuck $1,000,000.00 

"A Corporation" is organized this day 

under the Laws of the State of 

Pennsylvania with Authorized 

Capital, 10,000 shares, Par $100. $1,000,000.00 
Subscribed Stock : 

5,000 shares, Par $100 500,000.00 

20% paid down, balance in month- 
ly payments of 10%. 
Unsubscribed Stock : 

5,000 shares, Par $100 $500,000.00 

Feb. 1, 1912. 

Book Accounts Receivable $ 15,000.00 

Bills Receivable 18,000.00 

Material and Supplies 42,000.00 

Plant and Good-will 208,000.00 

To Book Accounts Payable $23,000.00 

To Bills Payable 10,000.00 

To "A Manufacturing Concern" (Vendors) 250,000.00 

As per agreement of this date, the Good-will, Plant 
and Assets of "A Manufacturing Concern" were 
purchased, and after deducting outstanding lia- 
bilities, were paid for in Stock. 

Feb. 1, 1912. 

Subscribed Stock $250,000.00 

' To Unsubscribed Stock $250,000.00 

Issue of 2,500 shares of Capital Stock to "A Man- 
ufacturing Concern" in full for their equity in Good- 
will, Plant, Assets, etc., as per agreement. 

Feb. 1, 1912. 

Subscribed Stock ..• $250,000.00 

To Unsubscribed Stock $250,000.00 

For sale of remaining 2,500 shares of the Capital 
Stock, Par $100. Received Cash 20%, balance in 
monthly installments of 10%. 

Dec. 1, 1912. 

Book Accounts Receivable $ 50,000.00 

Bills Receivable 26,000.00 

.Material and Supplies 82,000.00 

Plant and Good-will 497,200.00 

77 



C. P. A. QUESTIONS AND ANSWERS 

To Book Accounts Payable $5,200.00 

To "Another Concern" (Vendors) 650,000.00 

The purchase price of Good-will, Plant, Assets, etc., 

of "Another Concern." for $60,000.00 in payment of 

which an issue of 5% bonds were made and dated 

this day. 

Dec. 1, 1912. 

'Another Concern" $650,000.00 

To Bonds Payable $650,000.00 

Issue of bonds in favor of "Another Concern" as 
per agreement this date. 

December 31, 1912. 

Material and Supplies $1,650,000.00 

To Book Accounts Payable $1,650,000.00 

Purchase of material and supplies from sundry creditors during the year. 

Book Accounts Receivable $2,400,000.00 

To Sales • $2,400,000.00 

For sales during the year to sundry debtors. 

Book Accounts Payable $1,450,000.00 

To Bills Payable $1,450,000.00 

Acceptance of drafts in favor of sundry creditors. 

Discounts on Sales $18,250.00 

To Book Accounts Receivable $18,250.00 

Discount allowed to sundry debtors. 

Book Accounts Payable $14,500.00 

To Discount on Purchases $14,500.00 

Discounts allowed by sundry creditors. 
(Closing and adjusting entries are omitted to save space.) 









Cash Book. 










RECEIPTS. 






PAVMEXTS. 




1912 








1912 






Jan. 


1 


Subscribed Stock, 




Feb. 1 


Plant 


$ 50,000.00 






20% down 


.$ 100,000.00 


July 1 


Dividend Account, 




Feb. 


1 


Subscribed Stock, 






5% on $825,000.00. 


41,250.00 






10% (1st instalment) - 


Dec. 31 


Material and Sup- 






1 


Subscribed Stock, 
20% of new sub- 
scription 


50.000.00 




plies, cash pur- 
chases for year. . . 
Incorporation 
Expenses 


38,150.00 


Mar. 


1 


Subscribed Stock, 






3,800.00 






installments due . 


75,000.00 




Legal Expenses... 


5,000.00 


Apr. 


1 


do 


75,000.00 






50,000.00 


May 


1 


do 


75,000.00 




Wages and Salaries 


June 


1 


do 


75,000.00 




Bills Payable, ac- 




July 


1 


do 


75,000.00 




ceptances paid.. 


1,240,000.00 


Aug. 


1 


do 


75,000.00 




Book Accounts 




Sept. 


1 


do 


75,000.00 




Payable -. .~ 


50,000.00 


Oct. 


1 


do 


25,000.00 










Dec. 


31 


Book Accounts Re 






Total Payments. 


2.104,300.00 






ceivable on accoun 


t 2,000,000.00 




Balance 


645,700.00 



Total Receipts .... 2,750,000.00 2,750,000.00 



Dec. 31 Balance 645.700.00 

78 



PRACTICAL ACCOUNTING 

Balance Sheet, Dec. 31, 1912. 

ASSETS. LIABILITIES. 

Cash on hand $ 645,700.00 Accounts Payable $ 163,700.00 

Accounts Receivable 446,750.00 Bills Payable 220,000.00 

Bills Receivable 44,000.00 Bonds Payable, Dec. 1, 1912 650,000.00 

Plant and Good-will 755.200.00 Dividends Unpaid 50,000.00 

Depreciation, 5% 37,760.00 717,440.00 Reserve for Bad Debts 5,000.00 

Material and Supplies 50,000.00 

Total Liabilities 1,088,700.00 

Total Assets 1,903,890.00 -Capital Stock, fully paid.... 1,000,000.00 

Loss and Gain (Deficiency) . 184,810.00 



2,088,700.00 2,088,700.00 



Comments. 

There are some interesting points in this problem, and a careful study 
into the solution would be worth while to the student of accountancy. The 
plan of working out the parts might be changed somewhat, but the gen- 
eral result would be about the same. The installments on subscriptions to 
stock are taken as based on the original or face value of the stock; and 
it is assumed that all payments were actually paid as they came due. On 
July 1, dividends were to be paid "in proportion to holdings." 

This is taken to mean 5 per cent on the amount of installments paid 
to date on subscriptions plus the full paid stock issued to "A Manufactur- 
ing Concern." This dividend was paid on the strength of anticipated 
profits, but the outcome of the year's business shows very clearly the folly 
of such a step, and that said dividends were paid out of capital and there- 
fore illegally. This is not an unusual occurrence in corporations, but even 
if dividends had been paid on the strength of future profits, it was cer- 
tainly imprudent on the part of the directors to make things worse by 
declaring an additional dividend of 5 per cent at the end of the year. 

The requirements are carried out by making entries for both divi- 
dends, but the second one should certainly be rescinded. In case of neces- 
sity it might be possible to recover the dividends paid July 1, but the out- 
come of such an attempt would be doubtful. 

It will be noticed that the value of the plant purchased from "A Man- 
ufacturing Concern," Feb. 1, is not given, and is therefore included with 
the item of good-will, making a total of $208,000 for plant and good-will. 
The same plan is followed in the purchase of "Another Concern" on Dec. 
1, and though plant is not mentioned therein, it is assumed from the word- 
ing of the problem that both building and machinery are used in the man- 
ufacturing operations. This adds another large item of $497,200 to the 
plant and good-will account. At the end of the year 5 per cent is to be 
written off plant valuation, but as no exact valuation is given this is reck- 
oned on the entire amount. All of the expense items are charged to Profit 
and Loss Account, but it would be perfectly proper to spread some of these 
charges over a period of three or four years. The fixed expenses, however, 
should include 5 per cent interest accrued on the bond issue of $650,000 
for the month of December. 

The main comments on the Balance Sheet are that many of the assets 
appear to be of a doubtful nature, and on this interpretation of the ques- 
tion the company has operated at a loss. The security for bonds outstand- 

79 



C. P. A. QUESTIONS AND ANSWERS 

ing consists largely of Current Assets, but it will be noticed that the Cur- 
rent Liabilities are also large and that the only security left for bondhold- 
ers would be the item of plant, and we are unable to tell the valuation of 
same. It would seem that the Accounts Receivable are very heavy when 
the volume of business done is taken into consideration, yet the condition 
of the business is by no means alarming, though much of the security for 
stockholders is based upon the item of good-will. It would seem from the 
data given that either the wages ar,e too high, the sales too low, or the 
goods on hand undervalued. From such a large turn-over one would 
naturally look for substantial profits. 

Problem No. 2. 

A PROPOSITION has been made for the taking over of three cor- 
porations chartered by the state of Pennsylvania by a fourth corporation 
to be chartered by the same state. 

The following statement of affairs has been submitted by the three 
corporations proposed to be absorbed, and found to be correct. 

CORPORATION NO. 1. 

Capital Stock (Par value of shares $25.00) $1,000,000.00 

Treasury Stock 100,000.00 

Bonded Indebtedness 500,000.00 

Treasury Bonds I 50,000.00 

Accounts Payable . . . . 80,000.00 

Bills Payable '. 50,000.00 

Cash 50,000.00 

Accounts Receivable 180,000.00 

Bills Receivable 42,000.00 

Supplies 18,000.00 

Plant and Franchise 1,250,000.00 

CORPORATION NO. 2. 

Capital Stock (Par value of shares $50.00) $1,000,000.00 

Bonded Indebtedness 500,000.00 

Accounts Payable '. . . 10,000.00 

Cash 53,000.00 

Accounts Receivable .' 220,000.00 

Bills Receivable 80,000.00 

Supplies 52,000.00 

Plant and Franchises 1,275,000.00 

CORPORATION NO. 3. 
Capital Stock (Par value of shares $25.00) $1,000.00 

The proposition made to the three corporations is as follows: 

Each corporation shall pay its own debts, and distribute among its own 
stockholders whatever amount shall appear to the credit of profit and loss 
in closing their books, treating the statements rendered as being correct as 
to values. 

The remaining assets are to be turned over to the promoters of the 
new corporation on the following terms : 

The capital stock of corporations Nos. 1 and 2 at 20 per cent, premium 
in cash and $100,000.00 in cash to be paid for the capital stock of corpora- 
tion No. 3. 

80 



PRACTICAL ACCOUNTING 

The bonds of the two corporations will be purchased at a premium 
of 5 per cent. 

The proposition was accepted. 

Give closing entries for the books of the old corporations. 

Organize the new corporation with a capital of $1,000,000, and increase 
to such an amount as you may deem necessary, carrying the expenses of 
incorporation through your cash, including $5,000.00 counsel fees. 

Provide for an issue of bonds sufficient to carry out this agreement, 
said bonds to be sold at 10 per cent discount, and also provide for $150,- 
000.00 bonds in treasury, and give a balance sheet of the new corporation 
after the organization. 

Comments. 

This proposition is an excellent one ior drawing out the candidate's 
ability in the analysis of intricate corporate adjustments. Many interest- 
ing points are involved, and in some of them the exact interpretation is 
hard to decide upon. For instance, what "debts" are to be paid by each 
company is subject to conjecture, since there is not sufficient cash on hand 
in either of the companies to carry out the ( agreement. To meet this 
requirement it is assumed that enough of the accounts receivable have 
been collected to provide sufficient funds for settlement of current liabil- 
ities and for the distribution of surplus profits. If more of the accounts 
receivable had been realized upon there would be an equivalent amount 
of cash on hand to be turned over to the new company. 

The bonded indebtedness of each of the first two companies is given 
as $500,000.00, but since Corporation No. 1 has unsold bonds of $50,000.00 
it is assumed that only $450,000.00 has been sold. If the term "indebted- 
ness" is interpreted to mean outstanding, then we must increase the 
amount to $500,000.00. On this basis the purchase price at 105 would be 
$525,000.00 instead of $472,500.00, as shown in the solution. 

The question says to reincorporate the new company for such an 
amount as may be deemed necessary, and to "issue bonds sufficient to 
carry out this agreement." This is taken to mean the amount required after 
the increase of capital stock to provide the funds needed to complete the 
purchase of stocks and bonds contracted for, including treasury bonds, 
expenses, etc. To complete the incorporation of the company the capital 
stock is therefore increased from $1,000.00 to $2,000,000.00 and a bond issue 
provided for the same amount. The bonded debt might well have been 
increased, but the valuation of plant which constitutes the security for 
bondholders is not sufficient to justify. 

Treasury stock of No. 1 has been taken as stock which had not been 
issued, thus leaving a capital outstanding of $900,000.00. Treasury bonds 
were treated in a like manner, and interest accrued on same not considered. 

It is assumed that the consolidation was brought about by promoters 
through whom the transfers of securities and assets would be made, and 
the adjusting entries have been made accordingly. Other methods of ad- 
justment may be assumed as readily with similar results. Indeed, the pro- 
moters, by means of good-will, might have greatly increased the value of 
properties turned over to the new company. The bond discount of the 

SI 



C. P. A. QUESTIONS AND ANSWERS 

three companies has been charged to the separate franchise accounts in 
proportion to cost, but it would not be wrong to open a separate account 
for bond discount. 

COMBINED STATEMENTS. 

Before and After Liquidation. 





Corporation No. 1 


Corporation No. 2. 


Corporation No. 3. 




Total. 


Cleared. 


Total. 


Cleared. 


Total. 


Cleared. 


Assets. 

Plant and franchise. . . 
Supplies 


$1,250,000.00 

18.000.00 

50,000.00 

42.000.00 

180,000.00 


$1,250,000.00 
18,000.00 

42.000.00 
40.000.00 


$1,275,000.00 

52,000.00 

53,000.00 

80.000.00 

220,000.00 


$1,275,000.00 
52,000.00 

80.000.00 
93,000.00 


$1,000.00 




Bills Receivable 

Accounts Receivable. . 
Deficit 








Total 


$1,540,000.00 


$1,350,000.00 


$1,680,000.00 


$1,500,000.00 


$1,000.00 








Liabilities. 

Bonds Payable 

Bills Payable 

Accounts Payable .... 
Capital Stock 


$450,000.00 

50.000.00 

80.000.00 

900.000.00 

60,000.00 


$450,000.00 
900,000.00 


$500,000.00 

10.000.00 

120.000.00 

1,000.000.00 
50.000.00 


$500,000.00 
1,000,000.00 


$1,000.00 


$1,000.00 


Total 






$1,540,000.00 


'$1,350,000.00 


$1,680,000.00 


$1,500,000.00 


$1,000.00] 



Note. — The ''cleared" column of each company shows the status of the 
accounts turned over to the promoters of the new company, the stock at 
120 and the bonds at 105. 

All outstanding debts have been paid, as agreed upon, but to do so 
part of the accounts receivable had to be collected to provide sufficient 
cash, as above explained. 

If more had been realized from accounts receivable, the "cleared" col- 
umns shown in the tabulated statement would show cash on hand and an 
equivalent reduction in accounts receivable. 

Bonds outstanding of Company No. 1 are taken as $450,000.00 on the 
presumption that the amount authorized is $500,000.00. 

It will be seen that No. 3 has no assets listed, and that the surplus of 
Nos. 1 and 2 had been paid to stockholders. 

BOOKS OF CORPORATION NO. 1. 

Summary. 

The cash paid by the promoters did not go through the books of the 
liquidating companies but to the individual holders of the stocks and bonds 
in proportion to their holdings. The amounts to be divided are as follows: 
Paid by Promoters — 

For Purchase of Bonds $450,000.00 

For Premium on Bonds 22,500.00 

For Purchase of Stock 900,000.00 

For Premium on Stock 180,000.00 

Total Investment $1,552,500.00 



82 



PRACTICAL ACCOUNTING 

Cash Account. 
Dr. 

To Balance $ 50,000.00 

To Accounts Receivable. 140,000.00 

$190,000.00 

Cr. 

By Bills Payable $ 50,000.00 

By Accounts Payable 80,000.00 

By Surplus, dividend to stockholders 60,000.00 

$190,000.00 
Adjusting Entries. 
1. 

Promoters of New Company $1,350,000.00 

To Sundry Assets $1,350,000.00 

Plant and Franchise 1,250,000.00 

Supplies 18,000.00 

Bills Receivable 42,000.00 

Accounts Receivable 40,000.00 

2. 

Capital Stock '. $ 900,000.00 

Bonded Indebtedness 450,000.00 

To Promoters of New Company , $1,350,000.00 

For assets turned over to promoters of New Company, per agreement, for 

Capital Stock cancelled and taken, and for assumption of bonded 

indebtedness. 

3. 

Capital Stock $100,000.00 

To Treasury Stock $100,000.00 

4. 

Bond Account $ 50,000.00 

To Treasury Bonds $ 50,000.00 

BOOK OF CORPORATION NO. 2. 

Summary of Adjustments. 

The cash paid by promoters did not go through the books but to the 
holders of the securities and treated as in No. 1, and as follows : 
Cost to Promoters — 

For Purchase of Bonds $ 500,000.00 

For 1 'remium on Bonds 25,000.00 

For Purchase of Stock 1,000,000.00 

For Premium on Stock 200,000.00 

Total Investment $1,725,000.00 

83 



C. P. A. QUESTIONS AND ANSWERS 

Cash Account. 
Dr. 

To Balance $ 53,000.00 

To Accounts Receivable : 127,000.00 

$180,000.00 

Cr. 

By Bills Payable $ 10,000.00 

By Accounts Payable 120,000.00 

By Surplus, dividend to stockholders 50,000.00 

$180,000.00 
Adjusting Entries. 

1. 

Promoters of New Company $1,500,000.00 

To Sundry Assets $1,500,000.00 

Plant and Franchise $1,275,000.00 

Supplies 52,000.00 

Bills Receivable 80,000.00 

Accounts Receivable 93,000.00 

2. 

Capital Stock .$1,000,000.00 

Bonded Indebtedness 500,000.00 

To Promoters of New Company $1,500,000.00 

For assets turned over per agreement, and for assumption of capital 
and bonded indebtedness — both stocks and bonds having been pur- 
chased by said promoters from the holders thereof. 

BOOKS OF CORPORATION NO. 3. 

Evidently no books have been opened and no doubt the company 
has recently been incorporated. 

There is a capital stock of $1,000.00. but no assets listed. 

The promoters paid $100,000.00 to the stockholders for the above stock. 

Adjusting Entries. 

1. 

Promoters of New Company .$1,000.00 

To Deficit (or assets withheld) $1,000.00 

2. 

Capital Stock $1,000.00 

To Promoters of New Company SI, 000.00 

For capital stock transferred as per agreement. 

Summary of Investment. 

Amount paid by promoters to three corporations by which the entire 
ownership therein is acquired : 

84 



PRACTICAL ACCOUNTING 

Cash Investment. 

For Capital Stock of Corporation No. 1 $ 900,000.00 

For Premium of 20% 180.000.00 $1,080,000.00 

For Capital Stock in Corporation No. 2 $1,000,000.00 

For Premium of 20% 200,000.00 1,200,000.00 

For Bonds of Corporation No. 1 $ 450,000.00 

For Premium of 5% '. 22,500.00 472,500.00 

For Bonds of Corporation No. 2 $ 500,000.00 

For Premium of 5% 25,000.00 525,000.00 

For Capital Stock of Corporation No. 3 $ 1,000.00 

For Premiums— or Bonus 99,000.00 100,000.00 

Total Investment $3,377,500.00 

Note. — It will be seen above that Premiums on stocks and bonds and 
the stock of No. 3 amount in all to $527,500.00. This may be entered in the 
books of the New Company as Good-will, or Franchise, or as an additional 
charge against Plant. 

This purchase forms a basis on which to incorporate the New Com- 
pany, and may be handed over by the promoters at the price paid, or at 
an increased valuation. 



BOOKS OF CORPORATION NO. 4. 
Opening Data. 

The company is to incorporate for $1,000.00, and then increase to the 
amount deemed advisable by the candidate. 

The entire amount paid for the stocks and bonds of the three com- 
panies— $3,377,500.00. 

To pay for this amount of assets, the company is to sell its increased 
capital stock, also the bond issue which is to be floated and sold at 90. 
The bond issue must be for $150,000.00 more than required for sale, thus 
providing the treasury bonds called for. 

"We will increase the capital stock to $2,000,000.00 and provide a bond 
issue for $2,000,000.00 also. 

The bonds are sold at 90 per cent, of face value. 

Assume that all of the capital stock but $199,000.00 has been sold at 
par and fully paid for. 

Opening Journal Entries. 

1. 

Subscribers $ 1,000.00 

To Capital Stock $ 1,000.00 

(For incorporation of company and subscription to Capital Stock.) 

85 



C. P. A. QUESTIONS AND ANSWERS 
2. 

Subscribers $1,800,000.00 

Unsubscribed Stock 199,000.00 

To Capital Stock $1,999,000.00 

(Increase of Capital Stock from $1,000.00 to $2,000,000.00.) 

Capital authorized $2,000,000.00 

Subscribed for and paid up 1,801,000.00 



Unsubscribed $ 199,000.00 

3. 

Treasury Bonds $2,000,000.00 

To Bonds Payable $2,000,000.00 

Bonds Authorized $2,000,000.00 

Bond Sales 1,850,000.00 



Treasury Bonds on hand $ 150,000.00 

Bonds were sold at a discount of 10% as per cash book. 

Cash Account (Co. No. 4). 

Dr. Cr. 

To Subscribers $ 1,000.00 By Incorporation Expenses — 

Subscribers 1,800,000.00 BonuS; y 3% on $2,000,000 .. $ 6,666.67 

Treasury Bonds 1,850,000.00 Charter fee 30.00 

(discount contra) Counsel fees 5,000.00 

Other expenses, say 2,000.00 

By Bond discount (10% of 

sale) 185,000.00 

By Promoters of Company 
for value of Plants, Fran- 
chises and assets of Cor- 
porations Nos. 1, 2 and 3 3,377,500.00 



Total Payments $3,576,196.67 

(See accompanying Jour- 
nal Entries). 
By Balance 74,803.33 



$3,651,000.00 $3,651,000.00 



To Balance $ 74,803.33 

Opening Entries (Continued). 

Plant and Franchise No. 1 $1,537,536.91 

Plant and Franchise No. 2 1,594,485.66 

Franchise No. 3 105,477.43 

Brils Receivable 122,000.00 

Accounts Receivable 133,000.00 

Supplies 70,000.00 

To Promoters New Company $3,377,500.00 

To Bond Discount 185,000.00 

For assets turned over by the promoters of the company — including 
the amount added for premium, etc. Values per attached statement headed, 
"Details of Property Received." 

S6 



PRACTICAL ACCOUNTING 

INVENTORY VALUATIONS. 

Details of Property Received by Company No. 4. 

Plant and Franchise Corporation No. 1 — 

Original Valuation $1,250,000.00 

Premium on Stock Purchase 180,000.00 

Premium on Bond Purchase 22,500.00 

Share of Bond Discount, prorated to cost of 

entire plant, etc 85,036.91 

$1,537,536.91 

Plant and Franchise Corporation No. 2 — 

Original Valuation $1,275,000.00 

Premium on Stock Purchase 200,000.00 

Premium on Bond Purchase 25,000.00 

Share of Bond Discount 94,485.66 

1,594,485.66 

Franchise Corporation No. 3 — 

Original Cost $100,000.00 

Share of Bond Discount 5,477.43 

105,477.43 

Bills Receivable No. 1 $ 42,000.00 

Bills Receivable No. 2 80,000.00 

122,000.00 

Accounts Receivable No. 1 $ 40,000.00 

Accounts Receivable No. 2 93,000.00 

133,000.00 

Supplies from No. 1 $ 18,000.00 

Supplies from No. 2 52,000.00 

70,000.00 

Total Valuation $3,562,500.00 

Note. — The bond discount is prorated to the three companies in pro- 
portion to cost. 

CORPORATION NO. 4. 

Statement of Assets and Liabilities. 

ASSETS. 

Plant and Franchise No. 1 $1,537,536.91 

Plant and Franchise No. 2 1,594,485.66 

Franchise No. 3 105,477.43 

Supplies 70,000.00 

Bills Receivable 122,000.00 

Accounts Receivable 133,000.00 

Treasury Bonds 150,000.00 

Incorporation Expenses 13,696.67 

Cash 74,803.33 

87 



C. P. A. QUESTIONS AND ANSWERS 



LIABILITIES. 



Capital Stock authorized $2,000,000.00 

Unsubscribed 199,000.00 



Outstanding $1,801,000.00 

Bond Issue 2,000,000.00 



$3,801,000.00 $3,801,000.00 

Note. — A greater division may be made in the above statement if de- 
sired to show the apportionments of inventory valuations, premiums, dis- 
counts, etc. See analysis in separate exhibit. Franchise consists of the cost 
of No. 3, plus share of bond discount. 

Problem No. 3. 

It is proposed to organize for conducting a manufacturing business 
a small corporation based on certain rights and franchises owned by one 
of the proposed stockholders in the corporation. The amount of capital 
stock is to be $100,000. The owner of the rights and franchises agrees 
to transfer them to the corporation in consideration of $50,000 of the cap- 
ital stock, though he believes them to be worth much more than that 
amount. The remainder of the stock is to be sold to produce working 
capital. Certain capitalists are to be approached for cash subscriptions 
to the capital stock, but it is uncertain what opinion they will hold con- 
cerning the enterprise, and it is desired to have the stock in the treasury 
in such form that it can be sold below par if necessary. What method 
would you suggest for accomplishing the object in view? Formulate the 
journal entries for opening the corporation books. 

Journal Entries, 

1. 

Rights and Franchises, Dr $100,000 

To Vendor .• $50,000 

To Working Capital 50,000 

(Stock donated to treasury by vendors) 

2. 

Vendor, Dr $ 50,000 

To Capital Stock $ 50,000 

3. 

Treasury Stock, Dr $50,000 

To Capital Stock $50,000 

Balance Sheet. 

Rights and Franchises $100,000 

Treasury Stock 50,000 

Capital Stock $100,000 

Working Capital 50,000 



$150,000 $150,000 



PRACTICAL ACCOUNTING 

Problem No. 4 

A corporation organizes under the laws of the state of New Jersey 
to conduct a manufacturing business, with an authorized capital stock of 
$1,000,000 divided equally between preferred and common. Five incorpo- 
rators each subscribe for 100 shares of the common stock of a face value 
of $100 per share. John Jones purchases from three manufacturers their 
fully equipped plants for $950,000 in cash, and turns over the said three 
plants to the newly incorporated company for the $950,000 of preferred 
and common stock and $400,000 of first mortgage five per cent bonds, 
out of a total issue of said bonds in the sum of $500,000, leaving $100,000 
of said bonds in the company's treasury. 

Prepare opening journal entries with necessary explanations of the 
transactions and a statement of the company's condition after having 
acquired the three plants. 

Solution. 
1. 

Subscription Account, Dr $50,000 

To Common Stock $ 50,000 

A 100 shares at $100=$10,000 
B 100 shares at $100= 10,000 
C 100 shares at $100= 10,000 
D 100 shares at $100= 10,000 
E 100 shares at $100= 10,000 



500 shares $50,000 

2. 

Plants, Dr $1,350,000 

To John Jones $1,350,000 

His Cost Price $ 950,000 
His Gain 400,000 



$1,350,000 
Book values of Plants, $1,350,000 

Plants may also be booked at Cost Price. . .$ 950,000 
and Good Will Acct. opened 400,000 

$1,350,000 
3. 

John Jones, Dr $1,350,000 

To Preferred Stock $ 500,000 

(5,000 shares'® $100) 

To Common Stock 450,000 

(4,500 shares @ $100) 

To Bonds 400,000 

(First Mortgage 5 per cent Bonds in payment of 

the three plants acquired.) 

$1,350,000 

80 



: y 



■>■ , 



C. P. A. QUESTIONS AND ANSWERS 



4. 

Treasury Bonds, Dr : $100,000 

To Reserve Account $100,000 

Unsold bonds of the $500,000 issue. 

Balance Sheet. 

Plants $1,350,000 Capital Stock Preferred $ 500,000 

Subscriptions 50.000 Capital Stock Common 500.000 

Treasury Bonds 100,000 Bonds 400.000 

Reserve Account 100.000 



$1,500,000 $1,500,000 

Problem No. 5. 

Before making the changes referred to below, the profit and loss ac- 
count of a corporation for the year shows a credit balance of $60,000. The 
accounts receivable are $40,700, and the plant and machinery account is 
$55,000. The 6 per cent preferred stock is $50,000 and the common stock 
is $150,000. It is decided (a) to provide, out of the above named profit 
and loss balance 7^ per cent depreciation on plant and machinery; (b) to 
write off as uncollectable $1,500 of the accounts receivable and to make a 
reserve of 2 per cent on the remainder of the accounts receivable to provide 
for possible losses thereon ; (c) to provide for the preferred stock dividend 
for the year; (d) to provide for a bonus of $7,500 to the employes; (e) to 
provide for a dividend on the common stock of 15 per cent for the year; 
and (f) to carry the balance then remaining in profit and loss account to 
undivided profits account. 

Draft entries to comply with the above provisions. 

SOLUTION. 
Journal Entries. 

(a) Loss and Gain $ 4,125 

To Reserve for Depreciation $ 4,125 

A provision of 7 l / 2 % for depreciation of plant and 
machinery, per order of the board of directors. 

(b) Loss and Gain 1,500 

To Accounts Receivable 1 ,500 

For bad debts uncollectable and written off as in- 
structed. 

Loss and Gain 784 

To Reserve for Bad Debts 784 

A reserve of 2% on accounts receivable $39,200, 
to provide for possible losses thereon. 

(c) Loss and Gain 3,000 

To Dividend, Preferred Stock 3,000 

6% annual dividend on preferred stock as per reso- 
lution of board of directors. 

(d) Loss and Gain 7,500 

To Bonus to Employees 7,500 

Per resolution of the board of directors. 

90 



PRACTICAL ACCOUNTING 

(e) Loss and Gain 22,500 

To Dividend, Common Stock 22,500 

15% annual dividend on common stock, as per 
resolution of board of directors. 

(f) Loss and Gain 20,591 

To Undivided Profits 20,591 

Balance of net profits carried to undivided profits 
account, per resolution of the board of directors. 

Comments. 

A separate entry is made for each transfer or requirement. This is 
done in order to show clearly the disposition of each item, and to provide 
suitable explanation for each entry. Indeed, the opportunity provided for 
showing suitable explanations for each entry or transfer is the main reason 
for closing accounts by means of journal entries. 

The credit balance to Loss and Gain account is $60,000, but before 
showing the net gain it is necessary to deduct depreciation on plant and 
machinery, loss of uncollectable accounts, and to provide a reserve to meet 
possible losses on accounts receivable. The net gain is $53,591, and from 
the Minute Book of the directors, we get a record of authority for disposing 
of it in the form of dividends and bonus. The undivided balance of $20,591 
is to be held for future use. 

For closing entries, instead of making separate entries as shown above, 
it is usual to make one debit to Loss and Gain for the aggregate amount, 
and then credit each account separately, and vice versa with the credit ac- 
counts. It is hardly necessary to state that the several amounts must be 
posted separately to Loss and Gain account. The same plan may be fol- 
lowed in apportioning the net gain. It must be observed, however, that in 
this problem the first entries (a, b, c) are chargeable against profits before 
the net gain is determined. At this point the Loss and Gain account should 
be balanced and the balance or net gain carried down for apportionment. 
Sometimes the net gain is carried direct to Surplus account or to Un- 
divided Profits account, and from there the required amounts transferred 
to Dividend and Bonus accounts. In such a case the above entries would 
be changed to suit the plans adopted. 

Problem No. 6. 

X and Y enter into partnership, X's capital being $20,000, and Y's $15,- 
000. Capital is to bear interest at 10 per cent per annum ; profits are to 
be divided equally between the parties. The profits for the first two years 
(after charging interest on capital) were: 

1st year $6,000 

2d year 7,500 

and the drawings of the partners (in excess of salaries) were : 

X $1,500 first year, $1,750 second year 

Y 1,200 first year, 1,500 second year 

At the end of the second year, Z was admitted to partnership, and put 

into the business the same amount of capital as Y had in the business at 

91 



C. P. A. QUESTIONS AND ANSWERS 

that time, and on the same conditions as to interest and division of profits. 

The profits of the business for the third year were $12,000 and the partners' 

drawings in excess of salary were : 

X $1,750 

Y 1,600 

Z 1,500 

Construct the capital accounts of the partners for each of the three 

years, showing the balance of each at the end of the third year. 

SOLUTION. 

There is nothing out of the ordinary in this question, and no doubt the 
correct answer hinges on the interpretation of instructions in regard to the 
disposition of interest on capital and of the net profits. The rate of 10 per 
cent on capital is not unusual, as the consideration of interest on capital is 
simply a scheme for an equitable distribution of profits in cases where the 
investments are unequal, and the rate adopted has nothing to do with the 
laws of interest and usury even in states where interest rates are not so 
liberal as they are in some of our great western states. 

The partners share profits equally, but since their investments differ, 
each is to be allowed 10 per cent on this capital before division of the re- 
maining profits is made. It will be seen that each partner in this way takes 
a part of the profits in proportion to his holdings, after which an equal 
division is made, but in no case should such interest be considered as an ex- 
pense or a charge against income. 

In many instances the investment of each partner is placed in his cap- 
ital account and left there intact while profits, interest and withdrawals are 
adjusted into his private drawing account. In such a case interest is 
reckoned only on the original investment and any subsequent investments 
that had been made. In this question, however, we take from its reading 
that the Capital account contains all of the records for each partner; also, 
that the salaries and interest for the third year have been taken out, leaving 
a net gain of $12,000. Since the drawings of partners are from profits 
earned during the year and not withdrawals of capital, it is deemed un- 
necessary to allow interest. In fact, if interest were to be considered on the 
drawings, we have no specified time on which to reckon interest and there- 
fore could only make a guess at the amount to be allowed. The amounts 
withdrawn may be represented by a series of small charges scattered 
throughout the year, or, so far as we know, they may have been in totals. 
This uncertainty in the matter is in itself a valid reason for not considering 
interest on withdrawals, even though the problem would seem to require it. 
The partners' capital accounts are shown on the following page. 



92 



PRACTICAL ACCOUNTING 



X's CAPITAL ACCOUNT. 

investment 
Interest 10 
Profits y 2 3,000.00 



To Drawings $ 1,500.00 By investment $20,000.00 

Balance, carried down 23,500.00 Interest 10% 2,000.00 



25,000.00 25,000.00 



To Drawings 1.750.00 By balance 23,500.00 

Balance, carried down 27,850.00 Interest 10% 2,350.00 

Profits V2 3,750.00 



29,600.00 29,600.00 



To Drawings 1,750.00 By balance 27,850.00 

Balance, carried down 32,885.00 Interest, 10% 2,785.00 

Profits Yi 4,000.00 



34,635.00 34,635.00 



Y'is CAPITAL ACCOUNT. 

nvestment 
Interest 1C 
Profits H 3,000.00 



To Drawings $ 1,200.00 By investment $15,000.00 

Balance, carried down 18,300.00 Interest 10% 1,500.00 



19,500.00 19,500.00 



To Drawings 1,500.00 By balance 18.300.00 

Balance carried down 22,380.00 Interest 10% 1,830.00 

Profits Vz 3,750.00 



23,880.00 23,880.00 



To Drawings 1,600.00 By balance 22.380.00 

Balance, carried down 27,018.00 Interest 10% 2.238.00 

Profits Vi 4,000.00 



28,618.00 28,618.00 



Z's CAPITAL ACCOUNT. 

investment 
Interest 1( 
Profits Y 3 4,000.00 



To Drawings $1,500.00 Bv investment $22,380.00 

Balance carried down 27,118.00 Interest 10% 2,238.00 



28,618.00 28.618.00 



By balance 27,118.00 

Problem No. 7. 

A company is formed January 1st with a capital of $1,750,000.00, con- 
sisting of 17,500 shares of the par value of $100.00 each. 

Of these, 16,250 shares are sold to subscribers at par for cash. 

The following is a summary of the transactions of the company during 
the first twelve months of carrying on business : 

The preliminary and formation expenses are $12,500.00, which are paid 
in cash. 

They purchase freehold and leasehold current going iron works and 
collieries from A. B. and Company for $1,250,000.00. 

93 



C. P. A. QUESTIONS AND ANSWERS 

They take over from them the necessary plant and machinery at $375,- 
000.00, and a stock of iron, coal, etc., at $229,250.00. 

The vendors take in part payment of their purchase money $50,000.00 
First Mortgage Bonds, and $125,000.00 in shares of the company, fully paid. 
There is $1,665,000.00 paid to them in cash. 

The company expends during the year, $54,200.00 in additions to the 
plant and machinery by purchase from sundry creditors to the extent of 
$41,300.00, and by payments through Cash Account amounting to 
$12,900.00. 

They purchase materials from sundry creditors to the extent of $461,- 
500.00, and they purchase for cash to the extent of $67,310.00. They pay 
for wages, rents, royalties, tolls, wagon hire, repairs, etc., $842,700.00. 

Their sales of iron and coal to sundry debtors amount to $1,526,585.00. 
They receive in cash from sundry debtors $1,040,700.00. 

They draw on sundry debtors' bills to the extent of $419,740.00. 

They transfer of the above amount to sundry creditors $54,510.00, and 
the bank credits their account with $331,400.00, the proceeds of those dis- 
counted. 

They pay in cash to sundry creditors $231,415.00. 

They accept for creditors, bills of exchange to the extent of $142,- 
110.00; of this amount they meet $86,005.00 through their banking account, 
the balance being still current at the end of the year. They borrow on 
First Mortgage Bonds $375,000.00 which is paid into their banking account 
as received. 

They pay to their bankers for interest and commissions $8,040.00; for 
salaries, office expenses, and management, $15,670.00; law charges, $410.00, 
and for Directors' and Auditors' fees, $3,010.00. 

They write off five per cent from the original amount of the plant and 
machinery for depreciation, but nothing from the additions. 

They also write off the following amounts : $25,000.00 from the freehold 
and leasehold property to cover minerals taken from the freehold and to 
provide for the expiration of the leases ; $3,005.00 for bad debts, and one- 
fifth from the preliminary expenses. 

The discount allowed to sundry debtors amounted to $5,530.00. 

There is due at the close of the year $2,250.00 for interest on bonds, 
and the value of the stock of materials then on hand is $154,285.00. 

All receipts are paid into bank, and all payments made by check. 

Prepare Trading and Profit and Loss Accounts and Balance Sheet as 
at December 31st, showing the result of all the foregoing transactions. 
Marshall the assets and liabilities, beginning the former with the most 
liquid asset, and the latter with the liabilities to be first paid. 

Criticize in any way that occurs to you the information that the Trad- 
ing and Profit and Loss Accounts and Balance Sheet give. 

Answer and Comments. 

The Illinois examination questions are usually of a high order, and 
this one is no exception. Three hours were allowed in which to pro- 
vide a solution. There are points in it, however, that might be sub- 
jected to criticism, and yet this was no doubt intentional on the part of 

94 



PRACTICAL ACCOUNTING 

the examiners, since they have asked for a criticism of the information sub- 
mitted. The company has made sales amounting to $1,526,585, but all of 
this has been eaten up in operating and administrative expenses, leaving 
a Net Loss for the year of $4,055.00. This seems unreasonable, and no 
doubt it would be even greater if all of the expenses and charges were in- 
cluded. The outlay for royalties, tolls, wagon hire and repairs aggregates 
$842,700.00, or a little more than 50% of the sales. Evidently that is too 
much or else the sales are too low. The inventory of material on hand 
is given as $154,285.00, a very low amount for a company dealing in such 
large proportions. This is taken as including both material and stock of 
iron and coal. If it contains material only, then the stock has been either 
depleted or overlooked. Possibly the inventory was taken at the cost 
price. By rights it should include a portion of the operating charges, but 
we are not told whether it does or not. If we assume that operating 
charges are to be added, it is apparent that the net loss will be changed 
into a net profit, since the charges are more than 100% of the cost of 
stock and material. Discounts allowed to customers usually appear in the 
cash book, but in this case we show them in the journal. 

We are asked to prepare trading and profit and loss accounts, which are 
included in one exhibit as shown herewith. A balance sheet is called for 
also. To marshall the assets and liabilities means to array or arrange 
them in order. In order to properly assemble the details and exhibits, all 
postings should be made from the cash book and journal to the ledger ac- 
counts. In working up matters of this kind the accountant usually has his 
working papers or working sheets upon which he summarizes and analyzes 
his information. These are always kept for future reference. If accounts 
are opened it is apparent that a trial balance should be made. 

Bonds were issued to the extent of $425,000.00 It is very probable 
that the entire bond issue was passed upon by the directors and stock- 
holders at the beginning of the year. At that time only $50,000.00 were 
issued, while the remainder was sold later in the year. It is not probable 
that two separate bond issues would be sanctioned in one year. If they 
were all sanctioned at the one time, we could have debited Treasury Bonds 
for the amount unissued. First Mortgage Bonds should of course be 
credited for the aggregate amount. Evidently the bonds draw A l / 2 % 
payable yearly, since there is $2,250.00 of bond interest due on December 
31st. This is exactly A l / 2 % of $50,000.00 for one year. It is reasonable to 
suppose that the additional bond sale of $375,000.00 has some interest ac- 
crued. Since we do not know their date of issue the amount of accrued in- 
terest is omitted. Bonds sold after the date of issue usually include pay- 
ment for the accrued interest, but no interest has been mentioned in this 
case. Commission to the bankers for selling the bonds is undoubtedly in- 
cluded in the $8,040.00 of interest and commissions. 

It is evident that a greater division of operating and administrative ex- 
penses should have been made. The problem deals too largely in gen- 
eralities instead of being specific. In allowing $25,000.00 for extinguish- 
ment of leases, it is apparent that the expiration of the lease and the 
exhaustion of the mine are based on a period of fifty years. Freehold has 
reference no doubt to full ownership and leasehold to properties rented or 



C. P. A. QUESTIONS AND ANSWERS 

leased for a given time, but we are not able to distinguish in this case be- 
tween the purchased and leased properties. In the sales, division should 
have been made as between sales of material bought and sales of the com- 
pany's own production. The quantities of material purchased and mined 
are not specified. 

The section pertaining to drafts drawn on customers is not clear. It 
states that they drew on sundry debtors bills to the extent of $419,740.00. 
We are not told whether or not these are sight or time drafts, nor when 
they were issued, nor whether or not any of them have been paid. We 
assume them to be time drafts, due partly to the fact that the bills of ex- 
change which the company itself accepted had evidently a given time to 
run. Of the bills drawn, $54,510.00 have been transferred to sundry cred- 
itors and charged to their accounts. The problem states that bills dis- 
counted amount to $331,400.00, but it does not tell whether this is the 
"proceeds" after discounting or simply the sum advanced on account 
of said security, or whether or not they have all been transferred to the 
bank. We will assume that this $331,400.00 represents the face value of 
drafts transferred to the bank, and that the bank discount is included in 
the $8,040.00 charged up to interest and commission. Any other assump- 
tion might even be made in connection with this item. Both the drafts 
discounted and those transferred to sundry creditors as shown as a credit 
to bills discounted. When they are paid an entry will be required debiting 
bills discounted and crediting bills receivable. 

The reserve for bad debts of $3,005.00 does not state on what amount 
the estimate is made nor at what rate per cent. No provision has been 
made for the payment of bonds when they mature. Unless they are pay- 
able serially, it is customary to create a sinking fund for their redemption. 
Probably the intention is to refund them at maturity. The reason for 
issuing bonds is not apparent since the cash balance amounts to $427,- 
140.00. This will no doubt be used for development purposes in the near 
future. Cash book and journal entries are given as an aid in tracing the 
various transactions and in collating the ledger accounts. Accounts re- 
ceivable and payable would be better terms than sundry debtors and 
creditors. Since all cash has been deposited, the bank balance will equal 
the cash balance. 

Trial Balance, December 31. 

(Before making adjustments.) 

Capital Stock $1,750,000 

Cash and Bank ..$ 427,140 

Iron Works and Collieries 1,250,000 

Plant and Machinery 429,200 

A. B. & Company 14,250 

Incorporation Expenses 12,500 

First Mortgage Bonds 425,000 

Sundry Creditors 74,765 

Sundry Debtors 60,61 5 

Bills. Payable 56,105 

Bills Receivable 419,740 

06 



PRACTICAL ACCOUNTING 

Bills Receivable Discounted 385,910 

Bond Interest Payable 2,250 

Iron and Coal Purchased 758,060 

Wages and Operating Expenses 842,700 

Iron and Coal Sales 1 ,526,585 

Interest and Commissions ' 8,040 

Salaries, Office Expenses and Management 15,670 

Law Charges 410 

Directors' and Auditors' Fees 3,010 

Cash Discounts 5,530 

Bond Interest 2,250 



$4,234,865 $4,234,865 
Cash and Bank Account. 

RECEIPTS. 

Unissued Stock. 

Sale of 16,250 shares at par , $1,625,000 

Sundry Debtors 

To apply on account ._ 1 ,040,700 

Bills Receivable Discounted 331,400 

Proceeds of bills discounted at bank. 
First Mortgage Bonds 375,000 

$3,372,100 

PAYMENTS. 

Incorporation Expenses $ 12,500 

Incurred during incorporation — 

A. B. Company $1,665,000 

On account of purchase 
Plant and Machinery 12,900 

Additions and betterments 
Iron and Coal 67,310 

Material purchased for cash 
Wages and Operating Expenses 842,700 

For wages, rents, royalties, tolls, wagon hire, repairs, etc. 
Sundry Creditors 231,415 

To apply on account 
Bills Payable 86,005 

For acceptances paid 

Interest and Commissions 8,040 

Salaries, Expenses, Management 15,670 

Law Charges 410 

Directors' and Auditors' Fees 3,010 

Total Payments $2,944,960 

Balance in Bank 427,140 

$3,372,100 

97 



C. P. A. QUESTIONS AND ANSWERS 

Journal Entries on Company's Books During the Year. 

(1) Unissued Stock $1,750,000 

To Capital Stock $1,750,000 

For incorporation of A. B. & Company with a 
capital of 17,500 shares of $100 each. 

(2) Iron Works and Collieries 1,250,000 

Plant and Machinery , ,375,000 

Stock of Iron and Coal 229,250 

To A. B. Company 1,854,250 

For purchase of iron works and collieries, plant 
and machinery, and stock of iron, coal, etc. 
Terms of purchase as below. 

(3) A. B. & Company 175,000 

To First Mortgage Bonds 50,000 

To Unissued Stock 125,000 

Given in part payment of purchases, as above. 
Bonds and stock issued at par value. 

(4) Plant and Machinery.. 41,300 

To Sundry Creditors 41,300 

For additions to plant and machinery purchased 
from sundry creditors. 

(5) Iron and Coal 461,500 

To Sundry Creditors 461,500 

For purchase of materials. 

Note — We assume that the material consists 

of coal and iron ready for sale. 

(6) Sundry Debtors 1,526,585 

To Sales 1,526,585 

For sales during the year of iron and coal, j 

(7) Bills Receivable 419,740 

To Sundry Debtors 419,740 

For bills drawn on sundry debtors on account of 
sales. 

(8) Sundry Creditors 54,510 

To Bills Receivable Discounted 54,510 

For bills receivable transferred to apply on ac- 
count. 

(9) Sundry Creditors 142,110 

To Bills Payable.... 142,110 

For acceptance of bills of exchange. 

(10) Discount on Sales 5,530 

To Sundry Debtors 5,530 

For allowances during the year. 

(11) Bond Interest 2,250 

To Bond Interest Payable 2,250 

For interest on $50,000 bonds one year at 4}i%. 

98 



PRACTICAL ACCOUNTING 

Closing Entries on December 31. 

(12) Profit and Loss $ 49,255 

To Sundries : 

Reserve for depreciation of plant and ma- 
chinery . .' 18,750 

(5% of $375,000.) 

Reserve for Expiration of Leases (or free- 
hold and leasehold) 25,000 

Reserve for bad debts 3,005 

( — % of sundry debtors.) 

Incorporation Expenses 2,500 

(1-5 of original expense.) 

Trading and Profit and Loss Account for Year. 

RETURNS. 

Sales of Iron and Coal $1,526,585 

Purchases of Iron, Coal, Material: 

From A. B. & Company $229,250 

During the year 528,810 $758,060 

Less Inventory of Material, Dec. 31. . . . 154,285 

Cost of Stock sold $603,775 

Add Wages and Operating Expenses $842,700 

Depreciation of plant and machinery 18,750 

Depreciation of Iron Works and Collieries 25,000 886,450 

Total operating and trading charges 1,490,225 

Gross profit from trading $ 36,360 

GENERAL AND ADMINISTRATIVE EXPENSES. 

Salaries, Office Expenses and Management 15,670 

Law Charges 410 

Directors' and Auditors' Fees 3,010 

Reserve for Bad Debts 3,005 

Interest and Commissions 8,040 

Interest on Bonds, due 2,250 

Interest Accrued on Bonds nil 

Discounts to Customers 5,530 

Incorporation Expenses written off 2,500 

Total General and Administrative Expenses 40,415 

Net Loss for Year ' $ 4,055 

Note — It would be good practice to determine the net 
profit from business operations before deducting 
bond interest, interest and commissions, etc. 



C. P. A. QUESTIONS AND ANSWERS 

Balance Sheet as of December 31. 

ASSETS. 

Current Assets : 

Cash in Bank $ 427,140 

Sundry Debtors 60,615 

Bills Receivable $419,740 

Less: 

Bills Discounted $331,400 

Bills Transferred 54,510 385,910 33,830 $ 521,585 



Inventories : 

Stock of material on hand 154,285 

Fixed Assets : 

Iron works and collieries $1,250,000 

Plant and machinery 429,200 

1,679,200 

Deferred Charges: 

Incorporation expenses 10,000 



Total assets $2,365,070 



LIABILITIES AND CAPITAL. 

Current Liabilities : 

Sundry creditors $ 74,765 

Bills payable outstanding 

■ A. B. & Company balance 

Bond interest due , 

Bond interest accrued , 

Fixed Liabilities : 

First mortgage bonds 

Reserve Accounts : 

Depreciation of plant and machinery 

Expiration of leases , 

For bad and doubtful debts 



56,105 




14,250 




2,250 




nil 


147,370 




425,000 


18,750 




25,000 




3,005 


46,755 



Total Liabilities $ 619,125 

Capital and Profits : 

Capital Stock outstanding $1,750,000 

Less Net Loss for year 4,055 



Present Net Worth 1 ,745,945 



Total Liabilities and Capital $2,365,070 



Note — Attention is called to the contingent liability on bills discounted and 
transferred to creditors. 

100 



PRACTICAL ACCOUNTING 

Problem No. 8 — Consolidation. 

The Smith Mfg. Co., the Jones Mfg. Co., and F. Macdonald, Inc., 
amalgamated their interests on January 1, 1909, and organized the Con- 
solidated Mfg. Co., with an authorized capital stock of $2,000,000.00 divided 
into 20,000 shares, par value, $100.00. The individual balance sheets of 
each respective firm taken to represent the true and exact condition of 
affairs at that date are as follows and the agreement among the subscribers 
to the stock is also stated. 

Smith Mfg. Co. 

Plant and Machinery $ 50,000.00 Mort. on plant (5% interest). .$ 25,000.00 

Real Estate and Buildings 40,000.00 Bills Payable 14,000.00 

Furniture and Equipment 20,000.00 Accounts Payable 24,000.00 

Horses and Trucks 10,000.00 Capital Stock 125,000.00 

Raw Materials $19,000.00 Surplus 15,000.00 

Finished Goods 32,000.00 

Supplies 4,000.00 

55,000.00 

Bills Receivable 9,000.00 

Accounts Receivable 12,000.00 

Cash 7,000.00 



$203,000.00 $203,000.00 



Jones Mfg. Co. 

Plant, Equip, and Machy $100,000.00 Mort. on bldgs $100,000.00 

Real Est. and Bldgs 250,000.00 Int. Acct. on Bldgs. Mort. ... 1,125.00 

Horses and Wagons 18,000.00 Bank Loans 14,500.00 

Office Equip 2,000.00 Bills Payable 67,275.00 

Inventory, Fin. Goods, etc.... 118,000.00 Ac. Payable 47,100.00 

Bills Rec 22,000.00 Dividends Payable 30,000.00 

Ac. Rec 119,000.00 Capital stock 300,000.00 

Loans Rec 16,000.00 Surplus 87,000.00 

Cash 30,000.00 Reserve for Depreciation .... 22,500.00 

Reserve for Bad Debts 5.500.00 



$675,000.00 $675,000.00 

F. Macdonald, Inc. 

Plant and Machy $75,000.00 Ac. Payable $111,000.00 

Inventories 76,500.00 Capital Stock 150.000.00 

Ac. Rec 82,500.00 Surplus 39,000.00 

Cash 66,000.00 



$300,000.00 $300,000.00 

The average yearly net profits of each respective firm for a period of 
five years have been as follows : 

Smith Mfg. Co. $19,020.00 

Jones Mfg. Co 47,400.00 

F. Macdonald, Inc 15,120.00 



$81,540.00 



Of the total capitalization $1,600,000 to be issued to the incorporators 
for the properties and goodwill to be sold to the new company after the 
assumption of all liabilities of each respective firm, $400,000.00 to be offered 
for sale to the public. 



101 



C. P. A. QUESTIONS AND ANSWERS 

Vendor firms to donate 1,000 shares treasury stock to be available as 
a bonus if necessary to the sale of the 4,000 shares as yet unissued. 

The 15,000 shares issued and outstanding with vendors to be allocated 
among them as follows: 

(A) Each vendor firm to receive an amount of stock equal to the net 
assets, including cash, of his firm. 

(B) Each vendor firm to receive also additional stock equal to the 
capitalized net earnings of his respective firm, at 6%, after deducting from 
the amount to be capitalized 6% of original investment (capitalization). 

(C) Such stock as is then unallotted to be divided between the 
vendor firms share and share alike. 

The Consolidated Mfg. Co. continued operations for one year, at the end 
of which it showed profits of $190,000.00 before allowing for depreciation 
and before providing a reserve for possible bad debts. 

It sold during the year the 4,000 shares of stock at par, giving as a 
bonus 400 shares of the treasury stock. 

It also sold 500 additional shares of the treasury stock at $85.00 per 
share. 

It is reported that the profits of $190,000 mentioned above were repre- 
sented by an increase in cash $42,000.00, additional mehchandise to the 
amount of $12,000.00, increase in accounts receivable $48,000.00, decrease 
in accounts payable $88,000.00. 

You are asked to submit the following: 

1. Closing entries for the books of Jones Mfg. Co. 

2. Opening journal entries for the books of the Consolidated Mfg. Co. 

3. Journal entries to create from the profit of $190,000.00 a reserve 
for depreciation, and a reasonable reserve for bad debts. The amount in 
each case being your own estimate with reason. 

4. Journal entries showing declaration and payment of a 6% dividend. 

5. Final balance sheet of the Consolidated Mfg. Co. 

6. Statement showing the amount of stock that each vendor firm is to 
receive. 

Answer and Comments. 

This excellent question has been presented for solution without 
advice as to what state examination it came from. The practice nowadays 
for business concerns, whether corporations or otherwise, is to combine 
their interests for mutual protection and advantage, and it behooves the 
student of accountancy to study the methods of procedure back of and 
underlying such mergers and combinations. Of course the laws of the 
various states are not uniform in respect to mergers and holding com- 
panies, and because of this fact the accountant concerned with such matters 
must first of all familiarize himself with the statutory requirements of the 
state wherein the companies are located and where the combine is to con- 
duct operations. Indeed the student should familiarize himself with the 
corporation laws of his own state and then adapt the details of this solu- 
tion to them. In doing so, it may be found advisable to alter the plans 
that are here outlined in order to comply with state requirements. 

It will be seen that the three corporations merge their interests and 
become a single operating company under the name of "Consolidated 

102 



PRACTICAL ACCOUNTING 

Manufacturing Company." We are not told whether or not the three 
plants are to continue operations as before nor which one, if any, is to be 
the main plant or home office. The home office may be located in one of 
the plants or be in a different locality entirely. It would seem unwise to 
close down any plant which has heretofore been returning a fair dividend 
on the investment, and we can only assume that all are to be continued 
in operation as branches of the consolidated company. It is assumed of 
course that the capital stock of each separate company has been cancelled 
and the charter forfeited to the state. In doing this, certain legal steps and 
requirements must be followed in order to legalize both the dissolution of 
the separate companies and the incorporation of the new company. In 
allotting shares of the new company to the stockholders of the merging 
company, each stockholder will receive new stock in exchange for the old 
in the proportion shown in the statement herewith. 

The donation of stock back to the company is a common practice and 
such donated stock is known as "Treasury Stock" or as "Donated Stock," 
and it may be either given away or resold at any price decided upon with- 
out subsequent liability to the holders thereof. The stock given away is 
known as "Bonus Stock," and should be charged to profit and loss and 
spread over a term of three or four years. In this case it is entered as an 
offset against Working Capital which account was credited at the time of 
donation. The discount on treasury stock disposed of may also be charged 
to Working Capital. An examination of the journal entries herewith will 
show the steps in opening the books of the new company and in closing 
the books of the Jones Manufacturing Company. A similar procedure is 
necessary in closing the books of the other two companies, which of 
course must take place at the time transfers are made. Each of the old 
companies may continue to keep books as a branch house and make re- 
ports accordingly to the head office either daily, weekly or monthly in 
accordance with the accounting system in use. 

The capitalization of the new company is $2,000,000 and $1,600,000 of 
this amount is allotted to the old companies in accordance with instructions. 
A summary of this adjustment is given herewith and should be studied 
with care. After deducting 6% of the former capital from average profits 
we divide the result by 6% in order to get a capitalization. This capital- 
ization is considered Goodwill, and also the additional $100,000 divided 
among the three former corporations share and share alike. This is taken to 
mean that each company is to get one-third. In adjusting the profits of 
$190,000, it is necessary first to set aside a sufficient. amount for the reserves 
as shown in the statement herewith. Arbitrary selections have been made 
and the amounts might even have been more or less. The reserve for bad 
debts is taken at 2% since the reserve already amounted to $5,500. It now 
amounts to $10,730 and equivalent to something over 4% on the outstanding 
accounts. This should be sufficient to cover all losses in making collec- 
tions. 

In making opening entries on the new books a different procedure 
might even be followed. The assets and liabilities of each company may be 
brought into the books of the new company separately, if desired, and not 
collectively as shown herewith. It is good practice to make up a 

103 



C. P. A. QUESTIONS AND ANSWERS 

complete Consolidated Balance Sheet of the assets and liabilities of the old 
companies before they are entered on the new books. After that is done 
it is an easy matter to enter them in totals as illustrated. As an alterna- 
tive, we might say that each company turns over its entire plant, etc., in 
payment of the stock allotted to it, at which time a separate enry should 
be made. That is good practice. Such assets and liabilities are in payment 
of subscriptions and it may be reasonably contended, should be entered 
separately and not in conjunction with the accounts of other companies. 
In the end like results are obtained though the reader may use his own 
judgment in deciding upon the method that he should follow. The balance 
sheet as at the end of the year is here shown with the additions and 
deductions suggested. It is assumed that the dividend of the Jones Com- 
pany was paid off in cash before any transfers were made. It may be 
carried into the books of the new company if desired and then paid without 
altering the results in any way. The new dividend does not include treas- 
ury stock. Since this stock is held by a trustee a dividend could be paid 
to him, but it would immediately be returned to the company and credited 
to Surplus. Nothing would be gained by such payment. It will be noted 
that the journal entries differ slightly from those used in some other 
illustrations of mergers. This simply emphasizes the fact that different 
plans of setting up entries are in vogue. Instead of placing the reserves 
among the liabilities, they may be deducted from the assets against which 
they apply. 

It will be seen that the Goodwill of the respective companies is de- 
termined by capitalizing the net average on a 6% basis after deducting 
6% of the original investment. To this is added $100,000 for unallotted 
stock which has been divided equally among the three concerns, which 
stock has been donated back to the company to provide working funds. 
The stockholders of each company will have to adjust stock allotments 
according to their respective holdings, since fractional parts of new shares 
are receivable in exchange for the old. Even shares will no doubt be issued 
and then money payments made to equalize amounts. The accountant 
usually prepares a report or letter for presentation to his client along with 
the statements and exhibits. 

Disposition of Capital Stock. 
Statement showing the manner of dividing the $2,000,000 of Capital 
Stock of the New Company. 

Disposition under Shares Amount 

A 
For Net Assets 7,160 $ 716,000.00 

B 
For Capitalized Profits 7,840 784,000.00 

C 
Division of remaining 1,000 shares 1,000 100,000.00 

Total issued to vendor companies 16,000 $1,600,000.00 

Sold to Public 4,000 400,000.00 

Total Capital 20,000 $2,000,000.00 

104 



PRACTICAL ACCOUNTING 

Note — Shares issued to vendors for goodwill, 8,840, of which 1,000 
shares are donated to the company. This leaves them with $1,500,000, or 
15,000 shares. 

Allotment of Stock in New Company. 

No. shares new Co. 
Company Shares Amount for one of old. 

Smith Co 3,320 $ 332,000 2 and 82-125ths 

Jones Co 8,770 877,000 2 and 277-300ths 

Macdonald 2,910 291,000 ' 1 and 47- 50ths 

Total 15,000 $1,500,000 



Requirement 1. 
Closing Entries for the Books of the Jones Manufacturing Company. 

All the assets, including goodwill and liabilities of this company are 
transferred as of this date to the Consolidated Manufacturing Company, 
under agreement. The Capital Stock of the Consolidated Manufacturing 
Company received under the agreement is distributed pro rata to the 
stockholders of the company, except that 334 shares are donated to said 
Consolidated Company. The Capital Stock of this company is surrendered 
and cancelled. This company pays to its stockholders in cash the dividend 
of ten per cent on its capital stock already declared. 

(1) Consolidated Mfg. Company to Sundries $645,000.00 

For sundry assets transferred to them, as fol- 
lows : 

Plant, equipment and machinery $100,000.00 

Real estate and buildings 250,000.00 

Horses and wagons : 18,000.00 

Office equipment 2,000.00 

Inventory, finished goods, etc 118,000.00 

Bills receivable 22,000.00 

Accounts receivable 1 19,000.00 

Loans receivable 16,000.00 

(2) Sundries to Consolidated Mfg. Company 258,000.00 

For sundry liabilities assumed by them as fol- 
lows : 

Mortgage on buildings 100,000.00 

Interest account on building mortgage 1,125.00 

Bank loans 14,500.00 

Bills payable 67,275.00 

Accounts payable 47,100.00 

Reserve for depreciation .' 22,500.00 

Reserve for bad debts 5,500.00 

(3) Consolidated Manufacturing Company Stock 

To Consolidated Manufacturing Company 910,400.00 

For 9,104 shares of the capital stock of the Con- 
solidated Manufacturing Company at the 
par value of $100, issued to this company, 

105 



C. P. A. QUESTIONS AND ANSWERS 

(4) Consolidated Mfg. Co 523,400.00 

To Surplus 523,400.00 

To close the former account, this amount be- 
ing excess capital stock of the Consolidated 
Manufacturing Company over net assets 
transferred to them as per above entries, 
and represents value of goodwill con- 
templated in the agreement as per ac- 
companying statement. 

(5) Dividend 30,000.00 

To Cash 30,000.00 

For dividend declared. . . .paid in cash this date 

as per checks Nos to .... on the. . . . 

National Bank. 

(6) Surplus 33,400.00 

To Consolidated Mfg. Co. Stock 33,400.00 

For 334 shares of the latter stock donated to the 
Consolidated Manufacturing Company 
under agreement. 

(7) Capital Stock 300,000.00 

To Sundry Stockholders 300,000.00 

For full amount of the capital stock of this 
Company surrendered by stockholders and 
cancelled. 

(8) Surplus 577,000.00 

To Sundry Stockholders 577,000.00 

To close Surplus account with the purpose of 
distributing same to stockholders. 

(9) Sundry Stockholders 877,000.00 

To Consolidated Mfg. Co. Stock 877,000.00 

For 8770 shares of the latter stock, at the par 
value of $100 per share, distributed pro 
rata to the former stockholders of this 
company. 

Requirement 2. 
Opening Journal Entries for the Books of the Consolidated Mfg. Co. 

(1) Sundries to Sundry Vendors $2,032,000.00 

For sundry assets transferred to this Company in pursuance of an 
agreement dated by and between the Smith Manufacturing Com- 
pany, the Jones Manufacturing Company, and F. Macdonald, Inc., whereby 
their respective interests are amalgamated as of this date, the consideration 
for such assets and goodwill, less liabilities assumed by this Company, being 
16,000 shares of the capital stock of this Company, at the par value of $100 
per share. The following entries are made to open the books of this 
Company : 

106 



PRACTICAL ACCOUNTING 

Debits Smith Jones . Macdonald Total 

Plant and Machinery $50,000 $100,000 $75,000 $225,000 

Real Estate and Buildings 40,000 250,000 290,000 

Furniture and Fixtures 20,000 2,000 22,000 

Horses and Wagons 10,000 18,000 28,000 

Inventories 55,000 118,000 76,500 249,500 

Bills Receivable 9,000 22,000 31,000 

Accounts Receivable 12,000 119,000 82,500 213,500 

Loans Receivable 16,000 16,000 

Cash 7,000 66,000 73,000 

Goodwill 225,300 523,400 135,300 884,000 

(2) Sundry Vendors to Sundries $432,000 

Credits Smith Jones Macdonald Total 

Mortgages Payable $25,000 $100,000 $125,000 

Bills Payable 14,000 67,275 81,275 

Accounts Payable 24,000 47,100 111,000 182,100 

Bank Loans 14,500 14,500 

Mortgage Interest Payable 1,125 1,125 

Reserve for Depreciation 22,500 22,500 

Reserve for Bad Debts 5,500 5,500 

(3) Sundries to Capital Stock. . . ■ $2,000,000 
For authorized capital stock of this Company, namely 20,000 shares at 

the par value of $100 per share, allotted as follows : 

Sundry Vendors $1,600,000.00 

Issued to Smith Mfg. Co 3,653 shares 

Jones Manufacturing Co 9,104 shares 

F. Macdonald, Inc 3,243 shares 

Total 16,000 shares 

Unsubscribed Capital Stock 400,000.00 

For 4,000 shares unsubscribed and unissued. 

(4) Treasury Stock 100,000.00 

To Working Capital 100,000.00 

For capital stock donated to the Company as follows : 

Smith Manufacturing Co 333 shares 

Jones Manufacturing Co 334 shares 

F. Macdonald, Inc 333 shares 

Total 1,000 shares 

(5) Cash ' 400,000.00 

To Unsubscribed Capital Stock 400,000.00 

For 4,000 shares sold at par for cash. 

(6) Working Capital 40,000.00 

To Treasury Stock 40,000.00 

For 400 shares of capital stock held in the treasury given as a bonus 
with the above rale of stock. 

107 



C. P. A. QUESTIONS AND ANSWERS 

(7) Sundries to Treasury Stock 50,000.00 

Cash ^ 42,500.00 , 

Working Capital 7,500.00 

For 500 shares of capital stock held in the treasury sold at $85 per 
share. $15 discount per share charged to working capital. 

Requirement 3. 

Journal Entries to create Reserves for Depreciation and Bad Debts. Also 
to show the Declaration and Payment of a Six per cent Dividend. 

(8) Profit and Loss to Sundries $33,630.00 

To Reserve for Depreciation 28,400.00 

8% on plant and machinery $18,000.00 

1% on real estate and buildings .... 2,900.00 

15% on furniture and fixtures 3,300.00 

15% on horses and wagons 4,200.00 

To Reserve for Bad Debts 5,230.00 

2% against accounts receivable. 

(9) Profit and Loss 156,370.00 

To Surplus 156,370.00 

To transfer balance remaining in the former 
account, being net gain for the year after pro- 
viding reserves as per preceding entry. 

Requirement 4 — Declaration of Dividend. 

(10) Surplus 119,400.00 

To Dividend Account 1 19,400.00 

For dividend of 6% declared by the Board of 
Directors on $1,990,000 of capital stock out- 
standing, payable forthwith. 

(11) Dividend Account "... 119,400.00 

To Cash 1 19,400.00 

For payment of above dividend in cash. 

Requirement 5. 
Balance Sheet as of December 31, 1909. 

ASSETS. 
Current Assets : 

Cash $ 438,700.00 

Bills Receivable 31,000.00 

Accounts Receivable 261,500.00 

Loans Receivable 16,000.00 

Total J . . . .$ 747,200.00 

Inventories 261,500.00 

— $1 ,008,700.00 

108 



PRACTICAL ACCOUNTING 

Fixed Assets : 

Real Estate and Buildings $290,000.00 

Plant and Machinery 225,000.00 

Furniture and Fixtures 22,000.00 

Horses and Wagons 28,000.00 

565,000.00 

Goodwill 884,000.00 

Treasury Stock 10,000.00 



Total Assets .$2/167,700.00 

LIABILITIES AND CAPITAL. 

Current Liabilities : 

Bills Payable $ 81,275.00 

Accounts Payable 94,100.00 

Bank Loans 14,500.00 

Mortgage Interest Payable 1,125.00 

$ 191,000.00 

Fixed Liabilities : 

Mortgage Payable 125,000.00 

Reserves: 

Reserve for Depreciation $ 50,900.00 

Reserve for Bad Debts 10,730.00 61,630.00 



Total Liabilities $ 377,630.00 

Excess of Assets as follows : 

Capital Stock »: . .$2,000,000.00 

Donated Surplus 52,500.00 

Surplus 37,570.00 2,090,070.00 



Total Liabilities and Capital $2,467,700.00 

Requirement 6. 
Determining Apportionment of Stock to Vendors. 

The allotment of stock to vendors based on the net assets, plus capital- 
ization of net profits after allowing 6% on investment, plus 1-3 unalloted 
stock to each. 

Items. Smith Jones F Macdonald 

Mfg. Co. Mfg. Co. Inc. Combined. 

Average Net Profits $ 19,020.00 $ 47,400.00 $ 15,120.00 $ 81,540.00 

Less 6% of Original Capital. 7,500.00 18,000.00 9,000.00 34,500.00 



Profits to be capitalized on 

a 6% basis $ 11,520.00 $ 29,400.00 $ 6,120.00 $ 47,040.00 

Goodwill, or Capitalized 

Profits $192,000.00 $490,000.00 $102,000.00 $784,000.00 

Add Net Assets ' 140,000.00 387,000.00 189,000.00 716,000.00 



$332,000.00 $877,000.00 $291 ,000.00 $1,500:000.00 
109 



C. P. A. QUESTIONS AND ANSWERS 



Remaining 1,000 Shares, 

divided equally 33,300.00 33,400.00 33,300.00 100,000.00 



Total $365,300.00 $910,400.00 $324,300.00 $1,600,000.00 



ADJUSTMENTS. 
Problem No. 1. 



THE FOLLOWING proposition is taken from the final examination 
of the Ontario Institute of Chartered Accountants, and is given as an excel- 
lent study in the adjustment of accounts and preparation of statements. 
The reader is advised to try his hand at working the problem before con- 
sulting the answer. Indeed this is the only way to derive any real benefit 
from it. In doing so a better insight can be gained by opening up the 
ledger accounts, so as to show in detail the adjustments and closing entries. 
An inventory has been taken and the necessary entries made in the sev- 
eral accounts affected. In the course of the audit the items following the 
trial balance are found, which must be included in the accounts. 

Trial Balance of a Sugar Manufacturing Concern on April 30, 1912. 

Accounts receivable $ 801.73 

Accounts payable $ 24,875.70 

Acreage, campaign 1911 3,154.33 

Beet accounts, campaign 1911 18,438.53 

Bills receivable 291.15 

Bills payable 133,600.00 

Bonds 150,000.00 

Capital stock 237,225.00 

Buildings and plant 400,000.00 

Construction. Co. (over-payment) 613.98 

Cooperage account, campaign 191 1 952.1 1 

Coke, campaign 191 1 379.30 

Chemicals, campaign 1911 327.67 

Coal, campaign 1911 10,369.49 

Electric plant 4,829.47 

Sugar and molasses on hand 32,800.31 

Inventory, supplies 5,164.74 

Filter cloth account, campaign 1911 705.07 

General expenses, campaign 1911 651.54 

Interest and discount, general 2,757.33 

Interest and discount, campaign 1911 1.224.25 

Insurance and taxes 162.45 

Legal account, general 916.64 

Limestone account, campaign 1911 599.93 

Profit and loss, April 30, 1911 68,781.42 

Oil, grease and waste, campaign 1911 193.34 

Cash on hand 92.17 

110 



PRACTICAL ACCOUNTING 

Cash in bank . 1,666.18 

Real estate 3,429.20 

Subscribers (unpaid stock) 33,195.24 

Salary account, campaign 191 1 697.65 

Sugar house supplies, campaign 1911 1,118.80 

Seed account, campaign 1911 1,196.70 

Loan from town council 25,000.00 

Wages, campaign 1911 9,220.10 

Molasses, sales account 1,229.81 

Sugar and molasses account 32,800.31 

$604,730.82 $604,7 30.82 

Accounts payable, campaign 1911, $1,055.11; sums due from farmers 
for beet seed supplied during season of 1911, $1,000.00; sums due to farm- 
ers for beets supplied factory during same campaign, $15,625.03; sum due 
from Ontario Government as bounty on beets grown during campaign of 
1911, $4,905.00; interest due and unpaid on bond issue, $5,500.00; interest 
due and unpaid on corporation loan, $624.25 ; provision for bad and doubt- 
ful accounts, $402.92 ; interest due and unpaid on loan for construction pur- 
poses, $750.00. 

Stock subscription and charges appear in the Stock Ledger, amount- 
ing to $27,925, which have not been entered in the general ledger ; of this 
amount $14,900 has been issued as bonus on shares sold and paid for. It 
is estimated that not more than $23,000 will be realized out of subscrip- 
tions, including the additions made above, and this asset in the statement 
of affairs is to be based on the realization as stated. 

Interest is due to creditors upon extension notes given two years pre- 
vious, $1,192.00; and it is found that an officer of the company has col- 
lected $275.00 in payment of the stock which he failed to account for; of 
this sum $261.60 is added to accounts receivable, and $13.40 is charged in 
the campaign of 1911 as general expenses. 

From the information given above, make the adjusting entries neces- 
sary and prepare : 

(a) Profit and Loss Account, divided as between "campaign 1911" and 
general profit and loss. 

(b) Statement of Assets and Liabilities divided as between "available 
or cash assets" and "current or floating liabilities," and "permanent or 
fixed assets" and "bonded and capital liabilities." 

(c) Impairment or Deficiency Account. 

Note. — The accounts entering into earnings cover only one year pre- 
vious, which in the beet sugar business is referred to as the "campaign." 

SOLUTION 

The proposition is not difficult, but involves so many different con- 
ditions that many who have attempted to work it have either been baffled 
or have erred in some particular point. It is not uncommon for the auditor 
to find upon investigation that several items have been omitted as shown 
above, either intentionally or otherwise, and it is his duty to be on the 

in 



C. P. A. QUESTIONS AND ANSWERS 

watch at all times for such omissions. The ledger accounts should first 
be adjusted in accordance with the information presented by the auditor, 
and a new trial balance made to show the true condition of the accounts 
after the alterations are made. The following adjustment entries should 
be made and posted and a new trial balance presented : 

Adjustment Entries. 

(1) Sundry expense, campaign 1911 $ 1,055.11 

To accounts payable $ 1,055.11 

For accounts not previously entered, specific 
distribution of which is not stated in question. 

■(2) Accounts receivable 1,000.00 

To seed accounts, campaign of 1911 1,000.00 

Due from farmers for seeds not previously 
charged, names of customers not mentioned 
in question. 

(3) Beet account, campaign 1911 15,625.03 

To accounts payable 15,625.03 

Due to farmers for beets received from them 
and not yet credited to their accounts, names 
not given. 

(4) Ontario Government 4,905.00 

To beets bounty, campaign 1911 4,905.00 

Bounty from Government earned but not yet 
entered. 

(5) Bond interest 5,500.00 

Town loan interest 624.25 

Construction loan interest 750.00 

Interest and discount, general 1,192.00 

To interest payable 8,066.25 

Accrued interest on items shown, not yet 
entered. 

(6) Profit and loss 402.92 

To provision for bad debts 402.92 

Estimated loss in collecting accounts receivable. 

(7) The $275.00 collected by an officer of the Company and not accounted 
for has been charged to some account among the Accounts Receiv- 
able for $261.60, and 'General Expense, campaign 1911," for the re- 
maining $13.40. The entry to be made now depends upon whether 
or not the said officer is to be found or worth this amount; if he is, 
he must be charged with the full amount, unless he was entitled to 
the $13.40, in which case he would only be charged with $261.60. 
Taking this view of it, his account would be debited and some other 
one of the Accounts Receivable credited, leaving the net result 
exactly as before. If he were not entitled to the $13.40 the entry 
would be: 

112 



PRACTICAL ACCOUNTING 

Accounts Receivable (officer's account) $275.00 

To Accounts Receivable (account previ- 
ously charged) $261.60 

To General Expense account 13.40 

or 

Accounts Receivable 13.40 

To General Expense account 13.40 

Note. — We infer from the question that the amount paid was credited 
to Subscribers' Account at the time, and charged to some customer's 
account. 

(8) Subscribers (unpaid stock) $13,025.00 

Bonus 14,900.00 

To Capital Stock $27,925.00 

Subscribed and bonus stock not previously 
entered up. 

(9) Profit and loss 23,220.24 

To provision for loss on subscriptions.... 23,220.24 

Amount of estimated loss in realization. 
Note. — Since each subscriber for stock is liable for the full amount 
of his subscription, it would seem from the problem that some large 
provision for loss is considered. 

Dr. Campaign Account, 1911. Cr. 

Acreage $3,154.33 Campaign output: 

Beets 34,063.56 Sugar and molasses $32,800.31 

Cost of seed 1,196.70 Molasses sales 1,229.81 

$38,414.59 Seed sales 1,000.00 

Wages 9,220.10 $35,030.12 

Chemicals 327.67 Beets bounty 4,905.00 

Coal 10,369.49 

Coke 379.30 $39,935.12 

Limestone 599.93 Balance, loss on cam- 
Oil, grease, etc 193.34 paign, carried to 

Filter cloth 705.07 Profit and Loss 

Cooperage 952.11 Account 26,122.88 

Sugar house supplies 1,118.80 
General expense .... 638.14 
Insurance and taxes 162.45 
Sundry expenses 

(owing) 1,055.11 

25,721.51 



Salaries 697.65 

Interest and discount 1,224.25 



1,921.90 



$66,058.00 $66,058.00 



Impairment and Deficiency Account. 

Total impairment Excess of current 

per Profit and liabilities over 

Loss Account... $145,167.68 available assets. . $138,276.35 

Excess of bonded 
and capital liabil- 
ities over fixed 
assets 6,891.33 



$145,167.68 $145,167.68 

113 



C. P. A. QUESTIONS AND ANSWERS 

Note. — Sometimes bonus stock is carried as an asset and spread over 
a term of years. If this company were in good condition the bonus could 
be given a valuation, but the present outlook does not justify this. 

Dr. Profit and Loss Account, April 30, 1912. Cr. 

Loss campaign 1911, Net loss for year 

per campaign ac- ending April 30, 

count $26,122.88 1912, carried for- 

General interest and ward $38,266.02 

discount 2,757.33 

Interest accrued: 

On bonds $ 5,500.00 

On town loan . . 624.25 

O n construction 

loans 750.00 

On extension 

notes 1,192.00 

8,066.25 

Legal account 916.64 

Provision for bad 

debts • 402.92 

$38,266.02 $38,266.02 

Net loss carried for- Total net loss to 

ward, April 30, date, being impair- 

1911 68,781.42 ment of capital to 

Net loss year ending this extent $145,167.68. 

April 30, 1912 . . . 38,266.02 

Bonus stock issued 14,900.00 

Provision for loss 
on realization of 
stock subscrip- 
tions 23,220.24 

$145,167.68 $145,167.68 



Statement of Assets and 

ASSETS AVAILABLE: 

Accounts receivable: 

Trade $ 815.13 

Farmers 1,000.00 

$ 1,815.13 
Less bad debts re- 
serve 402.92 

$ 1,412.21 

Bills receivable ... 291.15 

Cash on hand ... 92.17 

Cash in bank 1,666.18 

1,758.35 

Beets bounty — On- 
tario Government 4,905.00 

Supplies as per in- 
ventory 5,164.74 

Sugar and molasses 

on hand 32,800.31 

Construction Co., 
overpayment . . . 613.98 

Unpaid stock ..... 46,220.24 

Less prov. on reali- 
zation fcr loss.. 23,220.24 

23,000.00 



Liabilities, April 30, 1912. 

CURRENT LIABILITIES: 

Accounts payable: 

Trade $ 25,930.81 

Farmers 15,625.03 

■ $ 41,555.84 

Bills payable 133,600.00 

Accrued interest: 

On bond issue . . 5,500.00 
On town loan . . 624.25 

On construction 

loan 750.00 

On extensions .. 1,192.00 

■ 8,066.25 

Town loan 25,000.00 



114 



PRACTICAL ACCOUNTING 



Balance: Excess of 
current liabilities 
over available 
assets 



FIXED ASSETS: 
Buildings and plant 

Electric plant 

Real estate 



Balance: Excess of 
bonded and capi- 
tal liabilities over 
fixed assets 



138,276.35 
$208,222.09 



$208,222.09 



BONDED AND CAPITAL LIABILITIES: 
$400,000.00 Bonds outstanding $150,000.00 

4,829.47 Capital stock ..... 265,150.00 

3,429.20 



$408,258.67 



6,891.33 

$415,150.00 



$415,150.00 



Problem No. 2. 

Smith, Hill and Davis engage in business under an agreement that 
Smith is to have a salary of $200.00; Hill $150.00, and Davis $100.00 per 
month, respectively; that the earnings are to be determined at any time at 
the request of any partner and the profits divided on a basis of the amount 
of business secured by each. They are in business nine months and find 
their accounts as follows : 

Smith's business . $4,500.00 

Hill's business 2,800.00 

Davis' business 3,000.00 

Net profits 2,100.00 

They then decide to rescind the salary agreement and divide the 
profits shown on a basis of business secured individually, treating the 
salary drawn as an advance. 

You find errors during the nine months' period, namely : 

Office furniture, charged to operation $ 65.00 

Accounts receivable, Smith's business uncollectable 210.00 

Funds advanced by Davis, credited to his earning account 400.00 

Items not yet paid nor entered into accounts : 

Smith's salary $200.00 

Hill's salary ^ 150.00 

Advertising 27.50 

Clerk hire '. 130.00 

Telephone 6.00 

Rent '. . 50.00. 

Stationery expenses 15.00 

Show the journal entries necessary to readjust the accounts; making 
a statement of the profit and loss account, showing all corrections. 

SOLUTION 

This question calls for some careful thought in order to make the 
adjustments required, as Avell as close inspection, to interpret its require- 
ments. We note that the partnership agreement pertaining to the divi- 



115 



C. P. A. QUESTIONS AND ANSWERS 

sion of profits and handling of salaries was rescinded after a period of 
nine months. This is taken to mean that the former agreement on this point 
was made void and disregarded, therefore the division of profits for said 
period is made according to the new agreement. On this basis the salaries 
of partners, amounting to $3,700, must be deducted from the business 
expenses and charged against their personal accounts. The salaries still 
clue Smith and Hill are omitted from consideration, since they have not 
yet been taken out. 

Adjusting entries are required as shown below for office furniture, 
uncollectable accounts, and funds advanced by Davis. The $400 advanced 
by Davis being adjusted from earnings to his personal account, thereby 
reducing his business earnings to $2,600. The uncollectable accounts are 
charged as a loss to the business rather than to Smith personally, on the 
presumption that said business was transacted in good faith by him as a 
member of the firm. The net results would, of course, be changed some- 
what if an opposite view were taken. The net profit of $2,100 shown in 
this question requires some analysis as herein shown for the purpose of 
presenting a true exhibit of the operating expenses. Expense items out- 
standing are adjusted into the profit and loss account and credited as liabil- 
ities to the various accounts stated, instead of including them all in 
expense account. We are asked to show the adjustment entries and the 
profit and loss statement, also the personal accounts of partners showing 
all corrections. In making the adjustments and statements the changes 
are shown on the presumption that the books have not yet been closed. If 
the ledger accounts had already been closed and profits apportioned, the 
adjustments would necessarily be made through an adjustment account 
and into the partners' accounts, instead of through profit and loss account. 

Adjusting Entries. 

Entry 1. Office furniture $ 65.00 

To operating expenses $ 65.00 

For transfer from operating expenses 
to fixtures account. 

Entry 2. Profit and loss 210.00 

To accounts receivable 210.00 

For accounts of Smith's business uncol- 
lectable. 

Entry 3. Davis' business 400.00 

To Davis personal 400.00 

For loan by Davis wrongly credited to 
his business account. 

Entry 4. Smith personal 1,600.00 

Hill personal 1,200.00 

Davis personal 900.00 

To salaries 3,700.00 

For transfer of paid salaries from sal- 
aries account to personal accounts of 
partners, per new agreement. 

116 



PRACTICAL ACCOUNTING 

Entry 5. Profit and loss .' 4,435.00 

To operating expenses 4,435.00 

For transfer of paid expenses to profit 
and loss account. 

Entry 6. Profit and loss 228.50 

To advertising payable 27.50 

To clerk hire 130.00 

To telephone expense payable 6.00 

To rent payable 50.00 

To stationery expense payable 15.00 

For expense items accrued or owing but 
not yet entered into the accounts. 

Entry 7. Smith's business 4,500.00 

Hill's business 2,800.00 

Davis' business 2,600.00 

To profit and loss 9,900.00 

For transfer of earnings to profit and 
loss account. 

Entry 8. Profit and loss 5,026.50 

To Smith personal 2,284.77 

To Hill personal 1,421.64 

To Davis personal 1,320.09 

Note. — In case the ledger has already been closed the journal entries 
would be changed considerably and an adjustment account opened. 

Smith's Personal Account. 

Drawings $1,600.00 Net profit $2,284.77 

Balance 684.77 



$2,284.77 $2,284.77 



Balance $ 684.77 

Hill's Personal Account. 

Drawings $1,200.00 Net profit $1,421.64 

Balance 221.64 



$1,421.64 $1,421.64 



Balance $ 221.64 

Davis' Personal Account. 

Drawings $ 900.00 Cash loan $ 400.00 

820.09 Net profit 1,320.09 



$1,720.09 $1,720.09 



Balance $ 820.09 

Profit and Loss Statement for Nine Months. 
Earnings. 

Smith's business, credited $4,500.00 

Hill's business, credited 2,800.00 

Davis' business, credited $3,000.00 

Less loans advanced 400.00 

2,600.00 



Total business earnings $9,900.00 

117 



C. P. A. QUESTIONS AND ANSWERS 

Operating Expenses. 

Expenses, etc., paid $4,500.00 

Partners' salaries paid 3,700.00 

Total operating expenses paid $8,200.00 

Deduct partners' salaries $3,700.00 

Deduct office furniture 65.00 

3,765.00 

Expenses allowed $4,435.00 

Add expenses not entered : — 

Advertising 27.50 

Clerk hire 130.00 

Telephone charges 6.00 

Rent 50.00 

Stationery expenses 15.00 

Accounts uncollectable 210.00 

Total expenses and charges. 4,873.50 

Net profit for period $5,026.50 

Profits Apportioned to 

Smith 45-99 $2,284.77 

Hill 28-99 1,421.64 

Davis 26-99 1,320.09 

Total $5,026.50 

Note. — If the ledger has already been closed, and an adjustment of 
profit and loss statement required, such adjustments could be made by use 
of parallel columns in the statement. 



MANUFACTURING AND TRADING ACCOUNTS. 
Problem No. 1. 
THE FOLLOWING figures are taken from the books of the Fairview 
Manufacturing Company, on the 31st of December: 

Inventory of Finished Goods (Jan. 1) $ 3,684.57 

Inventory of Raw Material (Jan. 1) 11,392.70 

Purchase of Raw Materials 62,519.85 

Sales 217,387.42 

Wages 109,317.88 

Rent 19,500.00 

Discounts received on Purchases 375.60 

Discounts allowed on Sales ; 186.36 

Power, Light and Heat 8,710.64 

Light and Heat for Office 168.00 

Repairs 1,090.00 

Packing 2,017.00 

Factory Expense 3,270.00 

118 



PRACTICAL ACCOUNTING 

General Expense 5,230.00 

Factory Insurance 1 ,050.00 

General Insurance 750.00 

Machinery and Plant 12,350.00 

Tools 2,600.00 

Commissions 7,642.00 

Office Salaries 9,700.00 

Interest on Loans 8,930.00 

Salesmen Salaries 440.00 

Loans Payable ' 22,000.00 

Discount Lost 120.00 

Notes Receivable ; 130,000.00 

Notes Receivable Discounted 8,000.00 

Notes Payable : 19,500.00 

Accounts Receivable 101,026.00 

Accounts Payable . 30,020.00 

Office Furniture 1,100.00 

Furniture and Fixtures 1,950.00 

Cash on Hand 1,825.00 

Cash in Banks 26,467.00 

Returned Sales 276.00 

Capital 200,000.00 

Reserve for Depreciations 3,236.98 

Reserve for Bad Debts 5,727.00 

Freight and Cartage Inward r. 727.00 

Stable Expenses 2,750.00 

Horses, Wagons and Harnesses 8,500.00 

Postage and Expressage 1,250.00 

Superintendence 3,500.00 

Taxes 250.00 

Goodwill 10,000.00 

Stationery and Printing 1,080.00 

Advertising " 8,630.00 

Surplus (previous year) 63,753.00 

You are requested (a) to prepare from these a Trial Balance, arranged 
in systematic order as to Balance Sheet Accounts, Assets and Liabilities 
and Loss and Gain Accounts, Expenses and Revenues, the Expenses 
divided between Commercial and Manufacturing, so as to facilitate the 
preparation of Financial or Business Statements ; (b) to draft journal en- 
tries for closing books ; (c) to prepare Manufacturing, Trading and Profit 
and Loss accounts and (d) to verify your results shown in (c) by a Balance 
Sheet. The following inventories and adjustments are to be taken into con- 
sideration before preparing the statements asked for : 

Raw Material $16,250.00 

Finished Goods 9,386.00 

Tools ' 2,000.00 

Office Furniture 1,000.00 

Furniture and Fixtures 1,500.00 

Stationery and Printing 300.00 

no * 



C. P. A. QUESTIONS AND ANSWERS 

Allow for depreciations: 

On Machinery and Plant 5 per cent. 

On Horses, Wagons and Harnesses 10 per cent. 

Reserve for Bad Debts 3 per cent on Accounts Receivable only. 
The item of Rent $19,500 is to be apportioned as follows : 53 per cent for 

Factory, 22 per cent for Salesrooms, and 25 per cent for Office. 
The item of Superintendence $3,500 is to be divided 3-5 to Factory, and 2-5 

to general expense. 

Comments. 

This problem presents many interesting points, and, no doubt, was de- 
signed to test the applicant's ability in charting and planning the ledger 
accounts, as well as in setting forth the required information in suitable 
business statements. There is usually too much disregard, on the part of 
bookkeepers, for the systematic arrangement of ledger accounts, and in 
many cases the ledger represents a jumbled up mass of accounts opened 
on ledger pages regardless of location, space required, classification or 
logical division. Before the ledger is opened, care should be taken in plan- 
ning the order in which the accounts should be shown therein, and the 
number of pages to be allotted to each. Accounts that are likely to require 
two or more pages during the currency of the ledger, should be given suffi- 
cient space to accommodate the records of said accounts without having 
to be transferred to another part of the ledger. 

The arrangement of accounts as shown in the trial balance, is so con- 
veniently planned that the usual statements can be made up with very little 
effort. The location of accounts may not be satisfactory to some account- 
ants, and the division may not please in all cases, but that is immaterial 
so long as the object is reached and satisfactory results attained. This 
order of arrangement, however, has considerable merit and is worthy of 
adoption, though any other convenient plan may suit just as well. 

The ledger accounts begin with the assets, arranged in the order shown 
herein, and listed according to availability in case of realization. Cash is 
first because it is available and ready for use at any time. Accounts and 
notes of customers come next, since they are most readily converted into 
cash. The liabilities follow, and are arranged in the order in which they 
will rank in the matter of payment or liquidation. Notes and accounts are 
usually first demands, and capital stock the very last. Following these, 
we have the expense accounts divided as among manufacturing, selling 
and general. These divisions will greatly facilitate the preparation of busi- 
ness and financial statements and are advisable where a great number of 
accounts are required. The expense accounts may be arranged in alpha- 
betical order, as shown under the section of general expenses. As a rule, 
several pages are left blank in each section for any additional accounts that 
may be required during the course of business. For instance. Cash would 
appear on page 1, and Goodwill on page 20; then, skipping a few pages, 
Notes Payable would follow on page 31. The expense or operating ac- 
counts may then begin on page 51, and so on. For convenience, the sec- 
tions are often given 100 pages each, in which case the manufacturing ac- 
count shown herein would be on page 51 or 101, according to the plan fol- 

120 • * 



PRACTICAL ACCOUNTING 

lowed. In the use of modern loose leaf and card ledgers of course these 
suggestions may be disregarded. 

It will be noticed that the information contained in the balance sheet 
is subdivided under appropriate headings. This plan might be followed 
in the revenue statements also if thought advisable, and in many cases such 
divisions are preferable, as they enable the unskilled person to comprehend 
the statements more readily without being required to analyze for himself. 
This matter of sub-dividing, however, is too often overdone and therefore 
should not be used too freely where unnecessary. 

(a) Trial Balance, December 31. 

Assets. 

Cash on hand $ 1,825.00 

Cash in bank 26,467.00 

Notes receivable, (per schedule) 130,000.00 

Accounts receivable, (per schedule) 101,026.00 

Inventory of finished goods, Jan. 1 3,684.57 

Inventory of raw material, Jan. 1 11,392.70 

Tools 2,600.00 

Furniture and fixtures 1,950.00 

Office furniture 1,100.00 

Horses, wagons and harnesses 8,500.00 

Machinery and Plant 12,350.00 

Goodwill 10,000.00 

Liabilities. 

Notes payable, (per schedule) $ 19,500.00 

Notes receivable, discounted, (per schedule) 8,000.00 

Accounts payable, (per schedule) 30,020.00 

Loans payable, (per schedule) 22,000.00 

Reserve for depreciations 3,236.98 

Reserve for bad debts 5 727.00 

Surplus, previous year 63753.00 

Capital 200,000.00 

Revenues. 

Sales 217,387.42 

Discounts received on purchases 375.60 

Manufacturing Expenses. 

Purchases, raw material 62,519.85 

Freight and cartage inward 727.00 

Wages 109,317.88 

Power, light and heat 8,710.64 

Factory expenses 3,270.00 

Factory insurance 1,050.00 

Superintendence, factory, ' 2,100.00 

Re P air s 1,090.00 

Rent of factory. , 10,335.00 

121 



C. P. A. QUESTIONS AND ANSWERS 

Commercial Expenses. 

Advertising 8,630.00 

Salesmen's salaries 8,930.00 

Commissions 7,642.00 

Returned sales 276.00 

Discount on sales 186.36 

Packing 2,017.00 

Rent of salesrooms 4,290.00 

Stable expenses 2,750.00 

General Expenses. 

Discount lost 120.00 

General expense 5,230.00 

General insurance 750.00 

Interest on loans 440.00 

Light and heat, office 168.00 

Office salaries 9,700.00 

Postage and expressage 1,250.00 

Rent for office 4,875.00 

Superintendence, general 1,400.00 

Stationery and printing 1,080.00 

Taxes 250.00 

Total $570,000.00 $570,000.00 

(b) Journal Entries. 

Manufacturing Account $ 62,519.85 

To Purchases $ 62,519.85 

Manufacturing Account 137,818.02 

To Freight Inward 727.00 

Wages 109,317.88 

Power, light, heat 8,710.64 

Factory expenses 3,270.00 

Factory insurance 1,050.00 

Superintendence 2,100.00 

Rent, factory, 10,335.00 

Repairs 1,090.00 

Reserve for depreciation 617.50 

Tools Account 600.00 

Trading Account . 195,480.57 

To Manufacturing Account 195,480.57 

Sales Account 276.00 

To Returned Sales 276.00 

Sales Account 217,111.42 

To Trading Account 217,111.42 

Trading Account 35,295.36 

To Advertising 8,630.00 

Salesmen's salaries 8,930.00 

Commissions 7,642.00^ 

122 



PRACTICAL ACCOUNTING 

Discount on Sales . 186.36 

Packing 2,017.00 

Rent of Salesrooms 4,290.00 

Stable Expenses 2,750.00 

Reserve for Depreciation 850.00 

Loss and Gain 7,963.08 

To Trading Account 7,963.08 

Discount on Purchases 375.60 

To Manufacturing Account 375.60 

Loss and Gain 28,543.78 

To Discount Lost 120.00 

General Expense 5,230.00 

General Insurance 750.00 

Interest on Loans 440.00 

Light and Heat 168.00 

Office Salaries 9,700.00 

Postage and Expressage 1,250.00 

Rent 4,875.00 

Superintendence 1,400.00 

Stationery and Printing 780.00 

Taxes 250.00 

Office Furniture 100.00 

Furniture and Fixtures 450.00 

Reserve for Bad Debts 3,030.78 

Surplus Account 36,131.26 

To Loss and Gain '. 36,131.26 

Note. — To save space, explanations are omitted, also entries dealing 
with inventories. 

(c) Manufacturing Account, Dec. 31. 

Debits. Credits. 

Inventory raw material Jan. 1 $ 11,392.70 Cost of goods manufactured, 

Purchases raw material 62,519.85 carried to Trading Account. $195, 104.97 

Freight inward 727.00 



74,639.55 



Deduct: 

Discount on pur- 
chases $ 375.60 

Raw material on 

hand 16,250.00 

$ 16,625.60 



Material consumed 58,013.95 

Wages 109,317.88 

Power, light and heat 8,710.64 

Factory expenses 3,270.00 

Factory insurance 1,050.00 

Superintendence, factory 2,100.00 

Rent of factory 10,335.00 

Repairs 1,090.00 

Depreciation: 

On machinery and plant 5% 617.50 

On tools 600.00 



$195,104.97 $195,104.97 

123 



C. P. A. QUESTIONS AND ANSWERS 



Trading Account. 



Debits. 
Inventory finished goods Jan. 

1 $ 3,684.57 

Manufactured during year ... 195,104.97 



Total 198,789.54 

Deduct: 

Finished goods on hand . . . 9,386.00 



Cost of goods sold 189,403.54 

Advertising 8,630.00 

Salesmen's salaries 8,930.00 

Commissions 7,642.00 

Discounts on sales 186.36 

Packing 2,017.00 

Rent of salesrooms 4j290.00 

Stable expenses 2,750.00 

Depreciation: 

Horses, wagons and harness 850.00 



$224,698.90 



Credits. 

Sales for year $217,387.42 

Less returns 276.00 



Net Sales 217,111.42 

Balance, Loss, carried to Loss 
and Gain Account 7,587.48 



$224,698.90 



Loss and Gain Account. 

Debits. Credits. 

Loss from trading as shown Balance, Net Loss carried to 

by Trading Account $ 7,587.48 the debit of Surplus account. $ 36,131.26 

Discount lost - 120.00 

General expense 5.230.00 

General insurance 750.00 

Interest on loans 440.00 

Light and heat, office 168.00 

Office salaries 9,700.00 

Postage and expressage 1,250.00 

Rent for office 4,875.00 

Superintendence, general 1,400.00 

Stationery and print- 
ing $1,080.00 

Less inventory 300.00 780.00 

Taxes 250.00 

Depreciation of: 

Office furniture 100.00 

Furniture and fixtures 450.00 

Reserve for bad debts, 3% 

on accounts receivable.... 3,030.78 

$ 36,131.26 $36,131.26 



(d) 

Current Assets. 

Cash on hand $ 1,825.00 

Cash in bank 26,467.00 

Notes receivable . . 130,000.00 
Less notes under 
discount 8,000.00 

$122,000.00 
Accounts receiv- 
able (per sched- 
ule) 101,026.00 



Balance Sheet, Dec. 31. 

Current Liabilities. 

Notes payable (per 

schedule) $ 19,500.00 

$ 28,292.00 Accounts payable 

(per schedule) .. 30.020.00 

Loans payable .... 

Reserve Accounts. 

For depreciation . . 3,236.98 
On horses, wagons. 

and harness 10% 850.00 

On machinery and 

223,026.00 P lant 5 % . 617 - 50 



49.520.00 
22,000.00 



4,704.48 



124 



PRACTICAL ACCOUNTING 



Raw material on 

hand 16,250.00 

Finished goods 

on hand 9,386.00 



Personal Property. 

Tools in factory . . 
Less depreciation.. 
Furniture and fix- 
tures 


2,600.00 
600.00 

1,950.00 
450.00 

1,100.00 
100.00 


2,000.00 


Less depreciation. . 
Office furniture . . . 
Less depreciation.. 
Stationery and sup- 
plies 


1,500.00 

1,000.00 

300.00 


Fixed Assets. 

Horses, vv a g o n s 
and harness 

Machinery and 
plant 


8,500.00 
12,350.00 






Total tangible as- 


302,604.00 
10,000.00 



$312,604.00 



For had debts .... 5,727.00 
On accounts r e- 

ceivable, 3% .... 3,030.78 

Fixed Liabilities. 

Surplus 63,753.00 

Less net loss 36,131.26 

Capital Stock 



8,757.78 



27,621.74 
200,000.00 



$312,604.00 



Problem No. 2. 
The following figures are taken from the books of Johnson Mill Com- 
pany on December 31, after they had operated for one year. You are 
requested to prepare : 

(a) Trial Balance. 

(b) Manufacturing Account. 

(c) Trading Account. 

(d) Profit and Loss Account. 

(e) Balance Sheet. 

(f) Draft resolution for directors to pass, declaring dividend, retain- 
ing 10 per cent of net profits as a reserve, make journal entries for dividend 
and reserve. 

Yarn fused $25,000.00 

Sales 81,250.00 

Wages 22,500.00 

Discounts received 2,500.00 

Dyeing 12,500.00 

Power, light and heat 3,125.00 

P>oxes and cases 1,250.00 

Repairs 685.00 

Sundry expenses (mills) 1,060.00 

Insurance 155.00 

Salaries „ . . 2,500.00 

Taxes 310.00 

Depreciation 425.00 

Advertising 1,250.00 

Traveling expenses 1,125.00 



125 



C. P. A. QUESTIONS AND ANSWERS 

Returns 1,000.00 

Commissions 1,875.00 

Discounts allowed by us 440.00 

Interest on loans 410.00 

Cash at bank and in hand 14,065.00 

Bills payable 37,500.00 

Sundry debtors 22,500.00 

Sundry creditors 6,250.00 

Fixtures and fittings, office 4,750.00 

Capital 93,750.00 

Machinery and plant 65,925.00 

Bills receivable 38,400.00 

Comments. 

This question is one of two which were required by the Maryland 
C. P. A. board to be answered during one sitting of three and one-half 
hours, and is probably the easiest of all the questions on the Practical 
Accounting papers. One can judge from this that the Maryland examina- 
tion questions are up to the standard of thoroughness and practicability. 
The question should be studied carefully by the student of accountancy 
because it presents a few interesting points that are likely to be overlooked 
upon first attempt at solution and the answer should not be consulted until 
a solution is provided according to his own ideas. 

It will be noticed that no inventories are mentioned and that no specific 
allowances for accounts and bills receivable are made. Under the circum- 
stances no notice of them' is taken, but in actual cases a consideration of 
them is usually imperative and arbitrary amounts could be assumed by the 
student for the solution of such an exercise. Depreciation is given as a 
debit balance of $425.00. This is no doubt on plant and machinery and is 
therefore charged to manufacturing, but the amount is entirely too low 
if it is considered as a yearly allowance on the property. It is presumed 
to have been credited to the account from which it was allowed. Repairs, 
insurance and taxes are also placed in the manufacturing account, as they 
were no doubt expended on machinery and plant. Boxes and cases are 
supposed to have been used in preparing goods for shipment and are there- 
fore a charge to trading account. Discounts on both purchases and sales 
are entered in the profit and loss account, but they can also properly be 
considered in the trading section. 

A reserve of 10 per cent is set aside, and ,$1,701.00 is carried to un- 
divided profits account. This makes an even amount, $5,625.00. for a 6 
per cent dividend, otherwise the dividend account would contain an uneven 
amount. This, however, is simply one view of the matter and not neces- 
sarily that of the examiners. The resolution of the directors declaring the 
divided would appear in the minute book. 

Answer, 
(a) Trial Balance, Dec. 31. 

Yarn fused) $ 25,000.00 

Sales $ 81,250.00 

126 



PRACTICAL ACCOUNTING 

Wages 22,500.00 

Discounts received 2,500.00 

Dyeing 12,500.00 

Power, light and heat 3,125.00 

Boxes and cases 1 ,250.00 

Repairs 685.00 

Sundry expenses (mills) 1,060.00 

Insurance 155.00 

Salaries 2,500.00 

Taxes , 310.00 

Depreciation 425.00 

Advertising \ 1,250.00 

Traveling expenses 1,125.00 

Returns 1,000.00 

Commissions 1,875.00 

Discounts allowed 440.00 

Interest on loans 410.00 

Cash 14,065.00 

Bills payable 37,500.00 

Sundry debtors 22,500.00 

Sundry creditors 6,250.00 

Fixtures and fittings, office 4,750.00 

Capital 93,750.00 

Machinery and plant 65,925.00 

Bills receivable 38,400.00 



$221,250.00 $221,250.00 
(b) Manufacturing Account, Dec. 31. 

Costs. Proceeds. 

Yarn (used) „ . .$ 25,000.00 Balance, cost of manufacturing 

Wages 22,500.00 charged to Trading Ac- 
Dyeing 12.500.00 count $65,760.00 

Power, light and heat 3,125.00 

Mill expenses 1,060.00 

Repairs 685.00 

Insurance 155.00 

Taxes 310.00 

Depreciation 425.00 

$ 65.760.00 $ 65,760.00 

(c) Trading Account, Dec. 31. 

Charges. Sales. 

Balance from Manufacturing Sales $81,250.00 

Account, cost of goods $ 65,760.00 Less returns 1,000.00 

Boxes and cases 1,250.00 



Traveling expenses 1,125.00 Net sales $ 80,250.00 

Commissions 1,875.00 



Total charges $ 70,010.00 

Gross gain, carried to Profit 
and Loss Account 10,240.00 



$ 80,250.00 $ 80,250.0 

127 



C. P. A. QUESTIONS AND ANSWERS 

(d) Profit and Loss Account, Dec. 31. 

Debits. Credits. 
Salaries $ 2,500.00 Gross gain from Trading Ac- 
Advertising 1,250.00 count $10,240,00 

Discounts allowed 440.00' Discounts received 2,500.00 

Interest on loans 410.00 

Total debits $ 4,600.00 

Net profit, carried down 8,140.00 

$ 12,740.00 12,740.00 

Reserve 814.00 Net profit, brought down 8,140.00 

Dividend 6% 5,625.00 

Undivided profits 1,701.00 

$ 8,140.00 $ 8,140.00 



(e) Balance Sheet, Dec. 31. 

Assets. Liabilities. 

Cash $14,065.00 Bills payable $37,500.00 

Sundry debtors 22,500.00 Sundry creditors 6,250.00 

Bills receivable 38,400.00 ■ 



Office fixtures 4,750.00 Total liabilities $ 43,750.00 

Machinery and plant 65,925.00 Capital stock 93,750.00 

Dividend $5,625.00 

Reserve 814.00 

Undivided profits .... 1.701.00 8,140.00 



$145,640.00 $145,640.00 

(f) Resolution Declaring Dividend. 

Resolved, that a dividend of six (6) per cent from surplus profits be 
and hereby is declared upon the capital stock of the company, payable on 
the 25th day of January, to the stockholders of record as shown by the 
books of the company on the 15th day of January, and that the treasurer 
of the company be and is hereby authorized and directed to pay said divi- 
dend in accordance with the terms of the present resolution. 

Journal Entries. 

Profit and Loss $8,140.00 

To Reserve $ 814.00 

To Dividend 5,625.00 

To Undivided Profits 1,701.00 

Disposition of net profits as per resolution of the board of directors. 
Note. — The remaining profits are usually disposed of also by resolu- 
tion or motion of the directors, and may, if desired, be incorporated in the 
above resolution. 

128 



PRACTICAL ACCOUNTING 

BLAST FURNACE RECORDS. 

From the following Trial Balance and information furnished, draw 
up — (1) A Cost Sheet; (2) A statement of Profits and Income; and (3) A 
Balance Sheet, showing also such intermediary accounts (if any) as may 
be necessary to connect — (a) The Cost Sheet with the Statement of Profits 
and Income; (b) The Statement of Profits and Income with the Balance 
Sheet. 

Trial Balance — December 30, 1911. 

Real Estate $ 200,000.00 

Buildings 500,000.00 

Furnaces, Plant and Equipment 1,400,000.00 

Capital Stock authorized $1,000,000.00 

Stock Subscriptions unpaid 200,000.00 

Stock in Treasury 50,000.00 

5 per cent First Mortgage Gold Bonds due De- 
cember 30, 1921, authorized 500,000.00 

5 per cent First Mortgage Gold Bonds Re- ■ 

deemed '. 100,000.00 

Purchase Money Obligations 200,000.00 

Ore, 248,620 Tons at $2.50 per Ton 621,550.00 

Advances on Ore Contract 50,000.00 

Coke, 211,400 Tons, at $3.25 per Ton 687,050.00 

Limestone, 45,900 Tons at $1.00 per Ton 45,900.00 

Supply Stores on hand Dec. 30, 1911 25,000.00 

Customers' Accounts 350,110.00 

Bills Receivable .' . 50,000.00 

Sundry Debtors 10,000.00 

Bills Payable 350,000.00 

Accounts Payable 310,000.00 

Reserve for Bad Debts 12,000.00 

Cash in Bank 235,000.00 

Working Funds 5,000.00 

Depreciation Reserve 115,000.00 

Blast Furnace Relining Fund 45,000.00 

Pig Iron on hand June 1, 1911 (6,500 Tons) . . . 97,500.00 

Discount on Bonds 20,000.00 

Exploration and Development Expenditures... 17,500.00 

Surplus January 1, 1911 583,887.00 

Furnace Labor 138,750.00 

Handling and delivering ore to ore stock. 24,862.00 

Handling and delivering coke to coke stock 10,570.00 

Handling and delivering limestone to limestone 

stock 2,245.00 

Repairs and Maintenance 15,500.00 

Electric Light and Power 9,500.00 

Blowing 10,000.00 

Laboratory Expense 4,000.00 

129 



C. P. A. QUESTIONS AND ANSWERS 

Yard and Switching Expense 14,200.00 

General Works Expense 19,750.00 

Taxes 5,200.00 

Insurance 7,800.00 

Pig Iron Sales (109,500 Tons) 1,971,000.00 

Allowances to Customers 54,500.00 

Salesmen's Salaries and Commissions 50,900.00 

Traveling Expenses 2,500.00 

Stationery and Office Expenses 4,500.00 

General and Administration Expenses 15,000.00 

Profit on sale of purchased Pig Iron 25,500.00 

Miscellaneous Income 17,500.00 

Interest on Bonded Debt 15,000.00 

Interest on Bills Payable 22,000.00 

Expenditures incurred on account Relining 

Blast Furnace 38,500.00 



$5,129,887.00 $5,129,887.00 



The production of Pig Iron for the year was 115,000 Tons, and the 
Materials consumed or used to obtain this production were : 

Ore 240,000 Tons 

Coke 210,000 Tons 

Limestone 40,000 Tons 

The Bond Interest Accrued and not taken upon the books was $5,000.00, 
while Interest amounting to $4,000.00 on Bills Payable was paid in ad- 
vance. There was $5,000.00 of Furnace Labor Accrued but not paid. The 
Taxes accrued but not taken upon the books were $2,300.00, exclusive of 
Federal Corporation Tax, which should be provided for, and Insurance 
Premiums paid in advance amounted to $1,800.00. A provision of 15c per 
ton of production should be made for Relining Furnaces; and the Directors 
authorized a further provision for General Depreciation of Buildings, 
Plant and Equipment of $50,000.00. The Discount on Bonds should be 
absorbed over the life of the Bonds and one-fifth proportion should be 
written off the Exploration and Development Expenditures. 

In calculating the Cost Units, you need not figure beyond two places 
of decimals; and in making these calculations the Operating Expenses 
(as distinct from Materials) may be grouped into two classes, viz. : 
(1) Labor; and (2) All other Operating Expenses. All other unit costs 
may be ignored. 

Cost Sheet. Production of Pig Iron, 115,000 Tons. 

Cost per 
Materials Used : Total Cost Ton 

Ore, 240,000 tons at $2.60 $ 624,000.00 $ 5.43 

Coke, 210,000 tons at $3.30 693,000.00 6.03 

Limestone, 40,000 tons at $1.05— 41,050.00 .36 

Total Cost Materials $1,358,950.00 $11.82 

130 



PRACTICAL ACCOUNTING 

Labor Charges: 

Furnace Labor 143.750.00 1.25 

Cost Labor and Materials $1,502,700.00 $13.07 

Operating Expenses: 

Relining Blast Furnace $ 17,250.00 

Depreciatiqn of Building, Plant, Equipment 50.000.00 

Repairs and Maintenance 15,500.00 

Electric Light and Power 9.500.00 

Blowing 10,000.00 

Laboratory Expense 4,000.00 

Yard and Switching Expenses 14,200.00 

General Works Expenses 19.750.00 

Taxes 7.500.00 

Insurance 6,000.00 

$ 153,700.00 1.33 

Total $1,656,400.00 $14.40 

Statement of Profits and Income for the Current year Ended Dec. 30, 1911. 

Income. 
Sales for Year : 

Pig Iron Manufactured, 109,500 Tons at 

$18.00 $1,971,000.00 

Less Allowances to Customers 54,500.00 

Net Sales $1,916,500.00 

Operating Charges: 

Inventory Pig Iron Jan. 1, 1911 $ 97,500.00 

Manufactured cost of 115,000 tons Pig Iron 

per production cost sheet at $15 1.656,400.00 

$1,753,900.00 
Less Inventory Dec. 30, 1911, 1,200 tons 

at $15.00 180,000.00 

First cost of sales.-. $1,573,900.00 

Salesmen's salaries and commissions 50,900.00 

Traveling expenses 2,500.00 

Stationery and office expenses 4,500.00 

General and administrative .expenses 15,000.00 

Total operating charges 1 ,646,800 . 00 

Net operating profit for 1911 $ 269,700.00 

131 



C. P. A. QUESTIONS AND ANSWERS 

General Income and Expenses: 

Add profit on sales of purchased Pig Iron. .$ 25,500.00 

Add miscellaneous income 17,500.00 43,000.00 

Profit on Operating and Miscellaneous. $ 312,700.00 

Deduct : 

Discount on bonds 1/10 of $20,000 $ 2,000.00 

Exploration and development expenditures, 

1/5 written off 3,500.00 

Interest on bonded debt 20,000.00 

Interest on bills payable 18,000.00 

Federal Corp. tax 2,642.00 46,142.00 

Net profit for 191 1 $ 266,558.00 

Note. — Pig Iron is inventoried at $15.00 per ton, the production cost 
being $14.40. This gives an apparent profit of $7,200, but is in harmony 
with the policy already established, as seen by the inventory listed at the 
beginning of the year. 

Balance Sheet, December 30, 1911. 

ASSETS. 

Fixed Assets : 

Real estate $ 200,000.00 

Buildings 500,000.00 

Furnaces, plant and equipment 1,400,000.00 $2,100,000.00 

Inventory : 

Ore, 8,620 tons at $2.60 $ 22,412.00 

Coke, 1,400 tons at $3.30 4,620.00 

Limestone, 5,900 tons at $1.05 6,195.00 

Pig Iron, 12,000 tons at $15.00 180,000.00 

Supply stores 25,000.00 238,227.00 

Current Assets: 

Cash in bank $ 235,000.00 

Working funds 5,000.00 

Bills receivable 50,000.00 

Customers' accounts 350,1 10.00 

Sundry debtors 10,000.00 650,110.00 

Advance on Ore contracts 50,000.00 

Deferred Charges to Profit and Income : 

Discount on bonds $ 18,000.00 

Exploration and development expenditures 14,000.00 32,000.00 

Prepaid Interest : 

Interest on bills payable advanced $ 4,000.00 

Insurance premiums advanced 1,800.00 5,800.00 

Total Assets $3,076,137.00 

132 



PRACTICAL ACCOUNTING 

LIABILITIES AND CAPITAL. 



Bonded Debt: 

Purchase money obligations $ 200,000.00 

First mortgage, 5% bonds $ 500,000.00 

Less bonds redeemed 100,000.00 400,000.00 



Current Liabilities : 

Bills payable '.$ 350,000.00 

Accounts payable 310,000.00 

Bonds interest, due '. . . 5,000.00 

Furnace labor, accrued 5,000.00 

Taxes accrued, unpaid 2,300.00 

Federal corporation tax 2,642.00 674,942.00 



Total Liabilities $1,274,942.00 

Reserve Accounts : 

For bad debts $ 12,000.00 

For depreciation 165,000.00 

Relining blast furnace 23,750.00 200,750.00 



Capital and Surplus : 

Capital stock authorized. .... $1,000,000.00 

Less stock in treasury 50,000.00 

Less subscriptions unpaid.... $ 200,000.00 250.000.00 750,000.00 



Surplus Jan. 1, 1911 $ 583,887.00 

Net profit for 191 1 266,558 . 00 850,445 . 00 



$3,076,137.00 



Inventory Valuations and Surplus, December 30, 1911. 

Ore Account. 

Purchased during year 248,620 tons at $2.50 $ 621,550.00 

Handling to stock pile, 10 cents per ton 24,862.00 



Total cost in stock pile 248,620 tons at $2.60 $ 646,412.00 

Used in manufacturing during year 240,000 tons at $2.60 624,000.00 



On hand in stock pile 8,620 tons at $2.60 .$ 22,412.00 

Coke Account. 

Purchased during year 211.400 tons at $3.25 $ 687,050.00 

Handling to stock pile, 5 cents per ton 10,570.00 



Total cost in stockpile 211,400 tons at $3.30 $ 697,620.00 

Used in manufacturing during year 210,000 tons at $3.30 693,000.00 



On hand in stock pile 1,400 tons at $3.30 $ 4,620.00 

Limestone Account. 

Purchased during year 45,900 tons at $1.00 $ 45,900.00 

Handling to stock pile, 5 cents per ton 2,245.00 



Total cost in stock pile 45,900 tons at $1.05 $ 48,145.00 

Used in manufacturing during year 40.000 tons at $1.05 — 41,950.00 



On hand in stock pile 5,900 tons at $1.05 $ 6,195.00 

133 



C. P. A. QUESTIONS AND ANSWERS 

Pig Iron Account. 

On hand January 1st 6,500 tons at $15.00 $ 97,500.00 

Manufactured during year 115,000 tons at $14.40 1,656,450.00 



Total .121,500 tons $1,753,950.00 

Sales 6,500 tons at $15.00 97,500.00 

Sales 103,000 tons at $14.40 1,483,650.00 



Total sales 109,500 tons $1 ,581,150.00 

On hand December 31st 12,000 tons at $14.40 $ 172,800.00 

Add increase from $14.40 per ton to $15.00 7,200.00 



Inventory valuation $ 180,000.00 

Assumed Tonnage, Cost and Selling Price of "Bought" Pig Iron. 

10,200 tons at $18.00 per ton $ 183,600.00 

Cost at $15.50 '. 158,100.00 

Profit on sales as per problem $ 25,500.00 

Answer and Comments. 

This is one of five questions given on the recent Illinois C. P. A. Ex- 
amination. They were all to be completed within three hours, thus 
indicating that this one had a time limit of one and one-half hours or 
less. The time limit seems short for questions of this kind, yet it is another 
reminder to candidates that the matter of time is of great importance when 
writing on examinations. Practice in answering questions within limited 
time is a necessity for persons preparing for examinations. 

The question is exceptionally interesting and the Illinois examiners 
have done wisely in supplying so much first hand information on account 
keeping for blast furnaces. The problem is not difficult, yet it covers the 
subject so completely that one cannot help but admire the arrangement of 
details and the manner in which it is presented. Any person with a fair 
knowledge of blast furnaces and cost accounting should have little or no 
trouble in supplying suitable answers. In providing a solution, however, 
it is necessary to use one's own judgment in connection with a few of the 
points which present themselves. This, of course, is a prerequisite in any 
case. We are asked for a Cost Sheet, a Statement of Profits and Income, 
and a Balance Sheet. These statements are, of course, to be interlocked by 
accounts which are familiar to every accountant. For instance, the balance 
from the Cost Sheet constitutes the "cost of manufacturing the output" 
and is transferred to the Profits and Income account ; the balance from that 
account in turn is transferred to the Balance Sheet as "Net Profit." 

Pig Iron consists of large bars of metal or iron after it is separated from 
the ore and other extraneous matter with which it is mixed when it comes 
from the mines. The ore is melted or boiled in a large furnace and the 
molten metal is then run off into moulds at necessary periods. The large 
bars of iron thus moulded are called pigs, or raw pig iron, and are ready for 
transportation to the iron foundries where they are put through further 
processes and made into different grades of iron. The blast furnace con- 
sists of a large cupola or furnace into which the ore, coke or coal and 
limestone are thrown. The heat within the furnace is fanned by air drafts 
or blasts from the bottom, usually forced in by ordinary revolving fans, 

134 



PRACTICAL ACCOUNTING 

and this force or blast causes the flames to rise for many feet above the top 
of the furnace, a sight which is familiar to persons who have seen blast 
furnaces in operation. 

The contents of the furnace being raised to an intense heat by the com- 
bustion of the fuel, are brought into a softened state, the limestone parts 
with its carbonic acid, and combining with the earthly ingredients of the 
ironstone, forms, with them, a liquid slag, while the separated metallic 
particles, descending slowly through the furnace, are deoxidized and fused ; 
in their passage they imbibe a portion of carbon, and at last settle down in 
the hearth, from whence they are run off into pigs about every twelve 
hours ; the slag, being lighter, floats upon the surface of the liquid metal and 
is constantly flowing out over a notch in the dam-plate, level with the top 
of the hearth. 

A careful study of the process in all its details should be made by the 
person desirous of fully qualifying himself along this line of work. Indeed, 
the accountant should have at least a working knowledge of manufactur- 
ing processes in general, before he can presume to hold himself out as a 
fully qualified cost accountant. 

The blast furnaces are strongly built to withstand the tremendous heat 
and pressure within. The lining is composed of fire brick and fire clay 
and is required to be replaced every three or four years. The blast furnace 
itself will last from 10 to 15 years or more, according to the strength of the 
structure. The furnace structure is usually from 30 to 50 feet high and 
in some cases even higher, and the capacity is anywhere from 5,000 to 
20,000 cubic feet or more. The reader can see by an examination Of the 
statements how the various accounts have been divided, yet a few points 
of explanation may be necessary. 

In the manufacture of pig iron, the unit consists of one ton. In an- 
other line of industry it may consist of one hundredweight, one dozen, or 
one finished article, as the case may be. The inventory sheet, presented 
herewith, is not called for, but there is no doubt of its convenience in 
working up the data necessary for the statements. Handling and delivering 
the materials has been added as a part of the cost thereof, and so con- 
sidered in the inventories also. This handling cost is just 10 cents per 
ton for the ore, and 5 cents for the coke and limestone. The operating ex- 
penses listed on the Cost Sheet, might even be modified by the omission 
of taxes and insurance or by the addition of exploration and development 
expenditures. It will be seen that the cost of manufacturing 115,000 tons 
of pig iron is $1,656,400 or $14.40 per ton. It will be seen, however, that 
we have inventoried the pig iron on hand, December 30. 1911, at $15.00 per 
ton, to follow out the plan of pricing evidently adopted by the company 
as shown by its inventory on January 1, 1911. No doubt this is more nearly 
the average cost price of manufactured or purchased pig iron. This gives 
an apparent profit of $7,200 as indicated in the statements. The inventory 
sheet shows very clearly the analysis of prices. 

It is apparent that the statements asked for could have been arranged 
differently, and that the items therein might properly be differently located. 
Reserves are listed among the liabilities, but it is well known that they are 
frequently shown as a deduction from the oroperty represented. One-tenth 

135 



C. P. A. QUESTIONS AND ANSWERS 

of the bond discount, $2,000, has been taken off, leaving $18,000 as a de- 
ferred charge. This is on the basis of their still having ten years to run. 
To be sure, the problem indicates eleven years to run, but there is no doubt 
an oversight some way. Equal or even amounts are usually written off 
bond discount annually, and since bonds usually run an even number of 
years, uneven amounts do not usually obtain. Following the letter of the 
question, however, it would seem right to spread the discount over eleven 
years. The amount reserved this year for relining the blast furnace is less 
than the actual amount expended, which was $38,500, but it must be ob- 
served that relining is only required about every third year. The Federal 
corporation tax is 1% of the profits after deducting $5,000. In this case it 
is 1% of $264,200 ($269,200— $5,000), the resulting net profit before deduct- 
ing the tax itself. The various deferred charges and prepaid expenses are 
clearly shown in the statements. 

Profit on the sale of purchased pig iron is taken as a side transaction 
and so considered in the solution. Likewise the miscellaneous. The supply 
stores have been charged off during the year to various operating expense 
accounts, so that only the inventory remains. 



UNITED STATES INTERNAL REVENUE REPORT. 

(From Florida C. P. A. Examinations — April, 1911.) 

A PUBLISHING Company which has closed its books on June 30, 

1909, and also on June 30, 1910, wishes you to make up for them a revenue 
account for the year ending December 31st, 1910, and also fill out the re- 
turn to be made to the Internal Revenue Department of the United States, 
as required by law. 

As information you are given Trial Balance of Dec. 31, 1909, June 30, 

1910, and Dec. 31, 1910, also Balance Sheet of July 1, 1910; paper and sup- 
plies of the Job Department Inventories $3,000. All insurance has ex- 
pired ; $2,500 of bad debts have been charged off. Machinery depreciated 
5% ; building depreciated 2 l / 2 % ; total paid up capital stock of the Corpora- 
tion Dec. 31, 1910, is $50,000. Information required by the United States 
Internal Revenue Department is as follows: 

Total amount of paid up capital stock outstanding. 

Total amount of bonded and other indebtedness outstanding. 

Gross Income. 

Total amount of all ordinary and necessary expenses of operating the 
business. 

Total amount of losses sustained January 1, 1910, to Dec. 31, 1910, not 
compensated by insurance or otherwise. 

Total amount of depreciation. 

Total amount of interest paid. 

Total taxes paid. 

Net Income. 

Less Specific deduction allowed, $5,000.00. 

Balance subject to tax of one per centum. 

1.36 



PRACTICAL ACCOUNTING 

Trial Balance. 
Debits. Dec. 31, 1909 June 30, 1910 Dec. 31, 1910 

Floating Assets $ 50,000.00 $ 50,000.00 $ 56,000.00 

Real Estate 10,000.00 10,000.00 10,000.00 

Building 18.000.00 18,000.00 18,000.00 

Machinery and Fixtures 40,000.00 42,000.00 45,000.00 

News Department Expenses: 

Labor 15,000.00 35,000.00 17,000.00 

Circulation 10.000.00 22,000.00 9,000.00 

Miscellaneous 5,000.00 11,000.00 1,000.00 

Job Department Expenses: 

Labor . 10,000.00 23,000.00 11,000.00 

Miscellaneous 1,500.00 2,100.00 2,000.00 

Supplies 10,600.00 13,000.00 8,000.00 

General Expenses 200.00 200.00 150.00 

Salaries . . 4,000.00 8.000.00 4,000.00 

Insurance 1,200.00 3,000.00 1,200.00 

Interest and Discount 400.00 700.00 250.00 

Taxes 250.00 800.00 650.00 

$176,150.00 $238,800.00 $183,250.00 

Credits. 

Floating Liabilities $ 33,000.00 $ 30,550.00 $ 22,700.00 

Capital and Surplus 80,150.00 80,150.00 93,250.00 

Advertisino- Sales 30.000.00 70,000.00 42,000.00 

Subscription Sales 10,000.00 16,000.00 6,000.00 

j b Sales • 22,000.00 40,000.00 18.000.00 

Rent of Building 1,000.00 2,100.00 1,300.00 

$176,150.00 $238.800.00 $183,250.00 

Balance Sheet. 

Assets. • • Liabilities. 

Floating Assets '. $50,000.00 Floating Liabilities $30,550.00 

Real Estate 10,000.00 Capital and Surplus 93,250.00 

Building 18,000.00 

Machinery and Fixtures 42,000.00 

Job Dept. Supplies, Inventory 3,000.00 
Insurance Unexpired 800.00 

$123.800.00 $123,800.00 

Answer and Comments. 

Returns for revenue purposes prior to 1913 had to be made to the In- 
ternal Rvenue Department as on Dec. 31st of each year. This was amended 
in 1913, permitting a corporation to choose the end of any month for clos- 
ing its fiscal year; in which 'case notice should be given to the collector 
thirty days prior. Returns must be made sixty days after the close of the 
fiscal year. For failure to comply with the provisions of the law a double 
penalty is imposed; the amount of the assessment is increased 50 per cent, 
and liability to a specific penalty of from $1,000 to $10,000 is incurred. The 
Net Income of this company is $16,100.00; from this is deducted the exemp- 
tion of $5,000, leaving a net of $11,100 on which the assessment tax of one 
per centum is to be calculated, $111. The addition of 50% would make a 
total tax of $166.50, with the added liability of a fine. It will be seen that 
the fiscal year of this company ends on June 30, yet the report, or returns, 
to the Department must be made as of December 31, regardless of the com- 
pany's closing date. This added inconvenience worked a hardship in many 
cases where the business year ends on some other date than Dec. 31, and to 

137 



C. P. A. QUESTIONS AND ANSWERS 

obviate the inconvenience, as above stated, a bill was introduced and the 
matter righted by Act of Congress in 1913. 

We are asked in the problem under discussion for a Revenue Account 
for the fiscal year ended Dec. 31, 1910, and also for the return to be made 
to the Department of Internal Revenue of the United States. Both are 
included herewith, though it will be seen that the latter is simply a brief 
statement of results while the one to be retained by the Company contains 
a detailed statement of operations, sales and expenses. The question is not 
difficult, but merely draws out the candidate's knowledge of analyzing 
amounts given at different dates for the purpose of making out the Revenue 
Report. There is very little difficulty attached to preparing the revenue re- 
port to be sent to Washington since the official blanks and instructions 
are clear and fully explained. 

The trial balances are arranged in tabular order as a convenience for 
analyzing the accounts, though it may be that no great service has been 
gained by the arrangement. A balance sheet is not asked for, but the 
student of accounting would benefit by preparing one from the information 
set forth as it would enable him to. prove his results. In estimating de- 
preciation only one year has been considered, yet it seems evident that 
none has been considered heretofore. If that were true, additional deprecia- 
tion should be provided in order that the properties may be shown at their 
correct valuation. The problem states that $2,500 has been charged off 
for bad debts, but apparently this has not been done and is therefore 
treated accordingly. It will be seen that the third trial balance shows $1,200 
in the insurance account, but $800 of this had been carried as an inventory 
from the previous period. 

In answering this question we have purposely given a greater amount 
of matter than would be required by the examiners, in order to provide 
a suitable lesson for those who are studying accountancy. The tabulated 
trial balances assemble the results of the various periods for the purpose 
of analysing the results of each period. The trial balance covering 18 
months can be obtained easily, but in order to make one for the calendar 
year some adjustments must be assumed to have taken place. By as- 
suming that the nominal accounts were closed Dec. 31, 1909, and allowing 
an inventory to supplies of $3,000, we have a net profit for the six months, 
of $7,850, thus showing surplus as on Jan. 1, 1910, to be $38,000. By 
doing this we are given a logical basis for the assembling of items for 1910. 
Since the books were closed on June 30, 1910, we must make adjustments 
for the six months ended Dec. 31, 1910, in case the ledger is to be closed on 
that date. A revenue account for the half year is therefore included 
which should accompany the year's revenue account to Dec. 31, as 
required by the problem. The Surplus account is shown as part of each 
revenue account with slight differences in the application of profits, but 
with like results. The report for Washington is shown herewith. Two 
forms are supplied by the Department, but only one is required to be filled. 
A copy should be retained by the corporation making returns. The blanks 
contain printed instructions on the back for the guidance of persons making 
out the reports, and are given below. These reports and the laws and regu- 
lations pertaining thereto are of interest to accountants and should be 

138 



PRACTICAL ACCOUNTING 

studied with care. Form No. 637 for Manufacturing Corporations is given 

herewith. The six classes into which corporations are grouped are as 

follows, each of which has its special form of report. 

Form No. 634 — Insurance Companies. 

Form No. 635 — Banks and other financial institutions. 

Form No. 636 — Transportation Corporations. 

Form No. 637 — Manufacturing Corporations. 

Form No. 638 — Mercantile Corporations. 

Form No. 639 — Miscellaneous Corporations. 

The above forms vary but slightly, in order to accommodate them- 
selves to the details required of different kinds of corporations. It is 
obvious that slight variation would be required between the reports of 
insurance companies, banks, and manufacturing corporations. Charitable 
institutions and building and loan associations are exempt from taxation. 
Others are required to pay 1 per cent, tax on all net profits in excess of 
$5,000. Space will not permit of including further details, but as stated 
above the Act itself and the definitions and decisions should be studied. 

Instructions. 

1. This return should be filed with the collector as soon as possible 
after the 1st day of January each year. 

2. This return must be properly filled out and verified and be in the 
hands of the collector on or before the 1st day of March. The penalty for 
failure to make the required return within the time specified by law is one 
(1) to ten C 10") thousand dollars. The assessment against delinquent cor- 
porations will also be increased 50 per cent of the amount found due. 

3. Every corporation, joint stock company, or association not spe- 
cially enumerated in section 38 of the act of August 5, 1909, as exempt, 
and every insurance company, shall make the return required by law, 
regardless of the amount of its net income, whether above or below $5,000. 

4. The return should be made on the required form and must be made 
on the prescribed form and must be for the calendar year. 

5. The return of each corporation must be verified by its president, 
vice-president, or other principal officer, and its treasurer or assistant 
treasurer. 

6. The seal of the attesting officer should be impressed on the return 
in the space reserved for such purpose. Affidavits should be made before 
a notary public or other officer using a seal authorized to administer oaths. 
If before a justice of the peace, a certificate of the clerk of the court as to 
his authority should be attached to the return. 

7. The return, properly executed, must be filed with the collector of 
internal revenue for the district in which the principal place of business 
of the corporation, etc., is located; that is, where the books are kept from 
which the data shown on the return is obtained. 

8. If an extension of time, not exceeding 30 days from March 1, 
is necessitated by reason of the illness or absence of an officer required to 
make the return, application to the collector for such extension of time 
must be made on or before March 1, or within the period for which such 

139 



C. P. A. QUESTIONS AND ANSWERS 

extension is desired. No extension of time can be granted on an applica- 
tion filed subsequent to March 31, or to cover a period later than that date. 

9. Returns should not be made in duplicate. 

10. Item No. 1 should not include unissued or treasury stock. 

11. Item No. 2 should include all interest-bearing- indebtedness. In 
the case of banking corporations, deposits should not be reported as indebt- 
edness. 

12. The amount claimed under item 5 (b) for depreciation should be 
such as measures the decline during the year in the value of buildings, 
machinery and such other property as is subject to depreciation on account 
of exhaustion, wear and tear, and obsolescence, and should not cover 
changes in the value of stocks and bonds. The change in the value of 
stocks and bonds is properly taken up in the inventories. 

13. Depreciation, to be allowed, must be the amount estimated to 
have been actually sustained during the year and must be charged on the 
books of the corporation against the value of the property in which the 
depreciation occurred. Where depreciation is made good by repairs, etc., 
and the expense of such repairs, etc., is charged to the general expense 
account, no deduction for depreciation can be made in the return of annual 
net income. 

14. The amount of interest paid on indebtedness must be limited to 
the interest actually paid on an amount of indebtedness not in excess of 
the paid-up capital stock outstanding at the close of the year. 

15. Dividends declared or paid are not deductible. 

16. The gross income of mercantile corporations should be ascer- 
tained in the following manner: From the sum of the total sales during the 
year plus the amount of the inventory at the end of the year deduct the 
sum of the inventory at the beginning of the year plus the cost of the 
goods and material purchased during the year. To this difference add the 
income received from any other source, and the result will be the gross 
income to be reported under item No. 3 on the return. 

17. The gross income of manufacturing corporations should be ascer- 
tained as in No. 16, except that the cost of manufacture should be included 
in the deduction to be made from the sum of the sales during the year and 
the inventory at the end of the year. 

For further instructions, see Regulations No. 31, containing the law 
and regulations, and Treasury Decision No. 1675, containing official rul- 
ings, copies of which will be furnished upon application to the collector of 
the district in which the corporation desiring same has its principal place 
of business. 

Note. — The following tabulation contains the trial balances given in the ques- 
tion and two others for 12 and 18 months ending Dec. 31, 1910, arranged in form for 
comparison. The Balance Sheet of July 1, 1910, may be put in also in order to have 
all the information together. The last trial balance includes all accounts for the 
18 months after making allowance for handling of inventories in accordance, with 
problem, and including surplus as on July 1, 1909. The trial balance for 1910 is 
made in the assumption that surplus had been adjusted to $38,000 on Jan. 1, 1910, 
by the addition of a profit of $7,850 for the previous six months, allowing only for 
an inventory of $3,000 for supplies. 

140 , 



PRACTICAL ACCOUNTING 



Comparative Trial Balances. 



Trial Balance 



1909 
Dec. 31 



DEBITS: 

Floating Assets 

Real Estate 

Building 

Machinery & Fixtures . 
News Dept. Expense: 

Labor 

Circulation 

Miscellaneous 

Job Depart. Expense: 
Labor 

Miscellaneous 

Supplies 

Genl. Expense 

Salaries 

Insurance 

Interest & Discount . . 
Taxes 



CREDITS: 

Floating Liabilities 

Capital Stock 

Surplus 

Advertising Sales . . . 
Subscription Sales , 

Job Sales 

Rent of Building . . 



1910 
June 30 



$50000 00 
10000 00 
18000 00 
40000 00 

15000 00 

10000 00 

5000 00 

10000 00 

1500 00 

10600 00 

200 00 

4000 00 

1200 00 

400 00 

250 00 



$50000 00 
10000 00 
18000 00 
42000 00 

35000 00 
22000 00 
11000 00 

23000 00 

2100 00 

13000 00 

200 00 

8000 00 

3000 00 

700 00 

800 00 



$176150 00 $238800 00 



33000 00 
50000 00 
30150 00 
30000 00 
10000 00 
22000 00 
1000 00 



30550 00 
50000 00 
30150 00 
70000 00 
16000 00 
40000 00 
2100 00 



1910 
Dec. 31 



$56000 00 
10000 00 
18000 00 
45000 00 

17000 00 
9000 00 
1000 00 

11000 00 

2000 00 

8000 00 

150 00 

4000 00 

1200 00 

250 00 

650 00 



$183250 00 



22700 
50000 
43250 
42000 

6000 
18000 

1300 



12 mos. 

to 
12-31-'10 



18 mos. 

to 
12-31-'10 



$56000 00 
10000 00 
18000 00 
45000 00 

37000 00 

21000 00 

7000 00 

24000 00 

2600 00 

10400 00 

150 00 

8000 00 

2200 00 

550 00 

1200 00 



$243100 00 



22700 00 
50000 00 
38000 00 
82000 00 
12000 00 
36000 00 
2400 00 



£56000 00 
10000 00 
18000 00 
45000 00 

52000 00 
31000 00 
12000 00 

34000 00 

4100 00 

18000 00 

350 00 

12000 00 

3400 00 

950 00 

1450 00 



$298250 00 



22700 00 
50000 00 
30150 00 
112000 00 
22000 00 
58000 00 
3400 00 



$176150 00i$238800 00 $183250 00 $243100 00 $298250 00 



Operating and Revenue Account for six months ended Dec. 31, 1910. 

Income. 

Advertising Sales $42,000.00 

Subscription Sales • 6,000.00 

$48,000.00 



Less Operating Expenses : 

Labor Charges $17,000.00 

Circulation 9,000.00 

Miscellaneous 1,000.00 



27,000.00 



Income News Department. 



$21,000.00 



Job Department Sales $18,000.00 

Less Operating Expenses: 

Labor Charges $11,000.00 

Miscellaneous 2,000.00 

Supplies, net 5,000.00 

. $18,000.00 

Income Job Department 

Rent of Building 



Nil 
1,300.00 



Gross Income of Business $22,300.00 



141 



C. P. A. QUESTIONS AND ANSWERS 

General Expenses. 

General Expense $ 150.00 

Salaries Paid 4,000.00 

Insurance 1 ,200.00 

Interest and Discount 250.00 

Taxes 650.00 

Bad Debts written off 2,500.00 

Depreciation of Machinery, 5% 2,250.00 

Depreciation of Building, 2 l / 2 % 450.00 

11,450.00 

Net Income for Half Year $10,850.00 

Condition of Surplus Account. 

Balance of Surplus, July 1, 1909 $30,150.00 

Add Net Income, July 1, 1910 13,100.00 

$43,250.00 

Add Net Income, Dec. 31, 1910 10,850.00 

Balance of Surplus, Jan. 1, 1911 $54,100.00 



Operating and Revenue Account for Year Ended December 31, 1910. 

Income. 

Advertising Sales $82,000.00 

Subscription Sales 12,000.00 

$94,000.00 

Less Operating Expenses: 

Labor Charges $37,000.00 

Circulation 21,000.00 

Miscellaneous 7,000.00 

65,000.00 

Gross Income News Department $29,000.00 

Job Department Sales $36,000.00 

Less Operating Expenses: 

Labor Charges $24,000.00 

Miscellaneous 2,600.00 

Supplies, net 7,400.00 

34,000.00 

Gross Income Job Departmenc 2,000.00 

Total Operating Income $31,000.00 

From Rent of Building 2,400.00 

Gross Income of Business $33,400.00 

142 



PRACTICAL ACCOUNTING 

General Expenses. 

General Expense $ 1 50.00 

Salaries Paid 8,000.00 

Insurance 2,200.00 

Interest and Discount 550.00 

Taxes - 1,200.00 

Bad Debts charged off 2,500.00 

Depreciation of Machinery, 5% 2,250.00 

Depreciation of Building, 2y 2 % 450.00 

Total Expenses 17,300.00 

Net Income for Year $16,100.00 

Condition of Surplus Account. 

Balance of Surplus, July 1, 1909 $30,150.00 

Add Net Income, Dec. 31, 1909 7,850.00 

$38,000.00 

Add Net Income for Year 1910 16,100.00 

Balance Surplus January 1, 1911 $54,100.00 



Balance Sheet, Dec. 31, 1910. 

Assets. 

Floating Assets ."...$ 56,000.00 

Real Estate 10,000.00 

Building 18,000.00 

Machinery and Fixtures 45,000.00 

Job Department Supplies 3,000.00 

Total $132,000.00 



Liabilities. 

Floating Liabilities • $ 22,700.00 

Reserve for Depreciation 2,700.00 

Reserve for Bad Debts 2,500.00 

Capital Stock 50,000.00 

Surplus, July 1, 1910 43,250.00 

Income Account, Dec. 31, 1910 10,850.00 

$132,000.00 $132,000.00 

Note. — The above balance sheet is not required by the problem, but in 
deciding upon a solution it will aid in proving the results obtained. 

143 



C. P. A. QUESTIONS AND ANSWERS 

United States Internal Revenue. 

Return of Annual Net Income. 

(Section 38, Act of Congress, approved August 5, 1909.) 

MANUFACTURING CORPORATIONS. 
RETURN OF NET INCOME RECEIVED DURING THE YEAR 

ENDING DECEMBER 31, 1910, by A PUBLISHING 

COMPANY a corporation, the principal place of busi- 
ness of which is located at 

Bridge and River Streets 

City or Town of Jacksonville , in the State of Florida 

1. Total amount of paid-up capital stock outstanding at close 

of year $50,000.00 

2. Total amount of bonded and- other indebtedness outstand- 

ing at close of year 22,700.00 

3. Gross Income (See Note A) 33,400.00 

DEDUCTIONS. 

4. Total amount of all the ordinary and necessary 

expenses of maintenance and operation of the 
business and properties of the corporation 
EXCLUSIVE OF INTEREST PAY- 
MENTS. (See Note B) $10,350.00 

5. (a) Total amount of losses sustained Jan. 1 to 

Dec. 31, not compensated by insurance or 

otherwise 2,500.00 

(b) Total amount of depreciation Jan. 1 to 

Dec. 31 2,700.00 

6. Total amount of interest paid Jan. 1 to Dec. 31, 

on an amount of bonded and other indebted- 
ness not exceeding the amount of paid-up 
capital stock outstanding at the close of the 
year 550.00 

7. (a) Total taxes paid Jan. 1 to Dec. 31 imposed 

under authority of the United States or 

any State or Territory thereof 1,200.00 

(b) Foreign Taxes paid None 

8. Amount received by way of dividends upon stock 

of other corporations, joint-stock companies, 
associations, and insurance companies subject 
to this tax None 



TOTAL DEDUCTIONS (See Note B). $17,300.00 

9. NET INCOME 16,100.00 

10. Specific deduction from net income allowed by law 5,000.00 



11. Amount on which tax at 1 per centum is to be 

calculated for assessment $11,100.00 

144 



PRACTICAL ACCOUNTING 



PUBLIC SERVICE CORPORATIONS. 

A GAS COMPANY shows the following trial balance at the end of its 
first year of business : 

Capital Stock $ 500,000 

Bonds 500,000 

Accounts Payable 48,000 

Gas Accounts 342,600 

Manufacturing Labor $ 5,400 

Boiler Fuel 3,200 

Generator Fuel 5,400 

Oil 126,000 

Purifiers 3,200 

Repairs, Works 2,600 

Expense, Works 3,900 

Water 1,500 

Insurance 300 

Taxes 4,800 

Distribution Labor and Material 12,000 

Office Expense 13,500 

Stable Expense 4,000 

Repairs, Mains 1 ,800 

Repairs, Meters 600 

Repairs, Sewers 700 

Street Lighting 300 

Advertising 300 

Maintenance Arc Lamps 1,500 

Licenses 1 ,000 

Discounts 34,000 

General Expense 5,000 

Sundry Debtors, Gas 40,000 

Sundry Debtors, Mdse 10,000 

Cash ... . 29,000 

Bond Interest 25,000 

Plant 1,055,600 



$1,390,600 $1,390,600 



The inventory of manufacturing material is $20,000. 

The inventory of Distribution Material is $4,000. 

No other inventories of any description are carried. 

The amount of gas manufactured during the year was 300,000,000 cubic 
feet. Amount sold 270,000,000 cubic feet. Unaccounted for, 30,000,000 
cubic feet. 

Give 1st, the manufacturing cost of gas sold; 2nd, the distribution cost 
of gas sold ; 3rd, prepare statement of operations of the company and 
balance sheet of assets and liabilities. 

145 



■C. P. A. QUESTIONS AND ANSWERS 

SOLUTION. 

I. Manufacturing Cost of Gas Sold. Cost Der 

Operation. 1000 feet 

Labor $ 5,400 $.020 

Fuel 8,600 .031 

Boiler $3,200 

Generator 5,400 

Oil 126,000 .467 

Water 1,500 .005 

Expense, Works 3,900 .015 

Stable Expense, Estimated 2,400 .009 

Purifiers.. 3,200 .011 

$151,000 $ .558 

Less : Material on Hand 20,000 .074 

Cost of Operation $131,000 $.484 

Maintenance. 

Repair Works $ 2,600 $ .010 

Total Cost of Manufacturing $133,600 $ .494 

II. The Distribution Cost of Gas Sold. 

Operation. 

Labor and Material $12,000 $.045 

Stable Expense, Estimated 1,600 .006 

Licenses 1,000 .002 

$ 14,600 $ .053 

Less : Material on Hand 4,000 .015 

Cost of Operation $ 10,600 $ .038 

Maintenance. 

Repairs, Mains $1,800 

Repairs, Meters 600 

Repairs, Services 1 700 $ 3,100 $ .012 

Total Cost of Distribution $ 13,700 $ .050 

Statement of Operation for the Financial Year ended Dec. 31, 1910. 

Gas Made as per Station Meter 300,000,000 cubic feet 

Gas Sold, 90% 270,000,000 cubic feet 

Gas unaccounted for, 10% 30,000,000 cubic feet 

146 



PRACTICAL ACCOUNTING 

A. Manufacturing Cost. 

Total Cost per 
Amount 1000 feet 

Labor $ 5,400 

Fuel 8,600 

Boiler $3,200 

Generator 5,400 

Oil 126,000 

Water ' 1,500 

Expense, Works 3,900 

Stable Expenses, Estimated 2,400 

Purifiers 3,200 

$151,000 
Less : Material on Hand . . '. 20,000 

$131,000 
Repair Works 2,600 $133,600 $.494 



B. Distribution Cost. 

Labor and Material $ 12,000 

Stable Expense, Estimated 1,600 

Licenses 1 ,000 

$ 14,600 
Less : Material on Hand 4,000 

$ 10,600 

Repairs, Mains $1,800 

Repairs, Meters 600 

Repairs, Services .' 700 3,100 $ 13,700 $ .05 



C. General Expense and Management. 

Office Expense J $ 13,500 

Advertising 300 

General Expense 5,000 

Insurance, Expired 300 $ 19,100 $ .073 



D. Taxes. 

Taxes Accrued and Paid for Year $ 4,800 .017 

Total Manufacturing Cost $171,200 $.634 

147 



C. P. A. QUESTIONS AND ANSWERS 



E. Street Lamp Operating. 

Street Lighting $ 300 

Maintenance Arc Lamps 



Amount Allowed for Year. 





1,500 


1,800 
34,000 


$ .006 


Discount. 




.126 




$207,000 
135,600 


$ .766 
.500 



Total Expenditure 

Profits, Carried to Profit and 
Loss Account 

Sales of Gas. $342,600 $1,266 

Profit and Loss Statement. 

Profits, Carried from Statement of 

Operations $135,600 $ .500 

Less : Bond Interest 25,000 .091 



Net Profits Transferred to Surplus Account $110,600 $ .409 

BALANCE SHEET, DEC. 31, 1910. 

Current Assets. 

Cash $ 29,000 

Customers 

Merchandise $ 10,000 

Gas 40,000 50,000 



Inventories: 

Material, Manufacturing 20,000 

Material Distribution 4,000 24,000 $ 103,000 



Fixed Assets. 
Plant 1,055,600 



$1,158,600 



Current Liabilities. 
Accounts Payable $ 48,000 

Fixed Liabilities/ 
Bonds 500,000 

Capital and Surplus. 

Capital Stock $500,000 

Surplus 110,600 610,600 

$1,158,600 
148 



PRACTICAL ACCOUNTING 

Comments. 

In preparing the operation statement the following accounts should 
be further explained. 

Stable expenses have been pro-rated over the manufacturing and dis- 
tribution costs ; the stable expenses are intended to show cost of all labor, 
material and expense, in connection with company's teams. 

License account is interpreted to mean licenses granting permission to 
open streets, and is therefore a distribution office expense. 

Street Lamp Operating shows the cost of all labor and material em- 
ployed in operating and repairing street lamps. It is set out as a separate 
item. 

Depreciation, being a loss incident to the holding of certain assets 
for the purpose of earning income, should be clearly set off against such 
income as a working expense before profits are arrived at. It should be 
remembered that depreciation affects revenue account and balance sheet 
as well. Hence, unless provision is made for depreciation, the true profits 
or losses are not demonstrated, and the balance sheet does not show a true 
and correct view of the state of affairs. In the problem under review, plant, 
stated in one amount, should be depreciated. 



CONSIGNMENTS. 

A, B & CO. AGREE with C, D & Co. that the latter shall ship on 
consignment to Honolulu on joint account, 20 cases of commodity "X," 
the invoice price of which is $2,100, less 2 l / 2 %. A, B & Co. pay the pack- 
ing charges, $25 ; also freight, insurance, and other charges, $90, and they 
draw on their correspondents in Honolulu in advance for $1,600, at 90 
days, which is discounted at a cost of $20, and the proceeds handed to 
C. D. & Co. as part-payment. These transactions may be dated March 31. 
On the 30th of November, A, B & Co. receive the account sales and net 
proceeds, $418, and they then pay C, D & Co. the balance due to them. 

Prepare a joint consignment account, charging interest on the amount 
lying out at 5 per cent per annum for eight months, closing it by dividing 
the loss. Also an account to be rendered by A, B & Co. to C, D & Co., 
closed by payment of the balance and prove that the losses borne by each 
are equal. 

Comments. 

A joint consignment account is a partnership of a temporary kind. 

In actual practice, joint adventures are broadly divided into two 
classes : 

Class "A" — A separate set of books is opened for the transactions of 
the joint venture and a joint bank account is used. 

In this case the transactions are recorded in precisely the same manner 
as those in ordinary partnerships, each partner's capital account being 
credited with his investment brought into the joint account. Interest is 
calculated on the capital, and the profits or losses shared in the propor- 
tions agreed upon. 

149 



C. P. A. QUESTIONS AND ANSWERS 

Class "B" — No separate set of books is opened for the transactions of 
the joint venture; each party records the transactions he enters into on 
behalf of the joint account in his own books, and no joint bank account 
is opened. 

Under this method, in order to determine the profit or loss, each 
party must render a complete statement of all transactions entered into 
by him, combine the transactions into a joint venture account, which 
would not appear in the books of either party, but would be raised from 
materials supplied by all concerned. This account is really a trading 
account. The results having been ascertained, each party will debit 
or credit his account with the joint venture, in his own books, with his 
share of the results ; the balance of this account will then show the amount 
due to or by the other party or parties. 

An "interest account" has been raised in order to show : 

A — The profit or loss from merchandise operations proper. 
B — The profit or loss from interest or other sources. 
C — Combined, the final results will be shown. 

SOLUTION. 

JOINT CONSIGNMENT ACCOUNT, A, B & CO. AND C, D & CO. 

Honolulu Correspondents. 

Mch. 31. Commodity "x," net . .$2,047.50 Mch. 31. Gash $1,580.00 

Cash, packing 25.00 90 day dft., $1,600.00 

Cash, freight, ins., etc. 90.00 less disc 20.00 

Nov. 30. Cash 418.00 

From Honolulu cor- 
respondents, paid 
over to A. B. & Co. 

$1,998.00 
Nov. 30. Balance, loss trans- 
ferred to P. & L. acct. 164.50 

$2,162.50 $2,162.50 

C. D. & Co.'s Account. 

Mch. 31. Cash $1,580.00 Mch. 31. Commodity "x" .....$2,047.50 

Remitted by A. B. & Nov- 30. Interest 68.25 

Co. On $2,047.50, 8 mos, 

Nov. 30. Interest 52.66 at 5% 

On $1,580, 8 mos., at 
5% 

Nov. 30. Vi loss $ 91.96 

Nov. 30. Cash 391.13 

Remitted by A. B. & 
Co., per "Account 
Sales," to balance 
account. 

$2,115.75 $2.115.75 

Interest Account. 

Nov. 30. A.. B. & Co ..$ 3.83 Nov. 30. C. D. & Co $ 52.66 

C. D. & Co 68.25 Profit & Loss acct. . 19.42 

$ 72.08 $ 72.08 

150 



PRACTICAL ACCOUNTING 

Profit and Loss Account. 
Nov. 30. Loss on merchandise. .$ 164.50 Nov. 30. Loss on operations. 

Per Joint Consignment Vi, A. B. & Co $ 91.96 

acct. J4, C. D. & Co 91.96 

Loss on interest 19.42 

Per interest acct. 



$ 183.92 $ 183.92 

A, B & Co.'s Account Rendered to C, D & Co. 

Nov. 30 y 2 loss on operations. .$ 91.96 Mch. 31. Cash, packing $ 25.00 

Cash 418.00 Cash, freight, ins., etc. . 90.00 

From Honolulu cor- Nov. 30. Interest 3.83 

respondents. On $115, 8 mos., at 

5% 
Cash, to C. D. & Co.... 391.13 
Remitted to balance 
account. 



$ 509.96 $ 509.96 



SYNDICATES AND HOLDING COMPANIES. 
Problem No. 1. 

EIGHT MEN form an association to build 100 houses and dis- 
tribute same among themselves. After selling all but 35 of the equities 
they decide to close out these to a stock company for $75,000, taking in 
settlement capital stock of said company. The equities are carried at 
$54,776.33. 

The capital account on the 30th of April, 1910, of the original associa- 
tion or syndicate amounted to $41,500; divided into 40 parts, the holders 
being: E. Coke, 5—40; S. Coler, 1—10; A. Maddis, 1—5; D. Sale, 1—40; 

C. Scope, 1—8; B. Divin, 1—10; J. Gaines, 9—40; and J. Muir, 1—10. 

The association owes the Kevan Company $3,913.34, being a balance 
due on construction work on the houses. There has accrued, to the 30th 
of April, 1910, interest on mortgages on the 35 properties still in hand 
$2,886.12; water rents unpaid but accrued, $995.88, and accrued taxes, 
$202.86. 

The unpaid rents receivable from 28 tenants amount to $1,430, while 
one tenant has overpaid $25. 

J. Muir, one of the members, is indebted on personal account to the 
syndicate $304.15. On the other hand, the other members of the associa- 
tion are creditors on personal account as follows : E. Coke, personal, 
$1,425.80; S. Coler, personal, $1,119.65; A. Maddis, personal, $2,281.28; 

D. Sale, personal, $285.16; Q. Scope, personal, $775.80; B. Divin, per- 
sonal, $828,98; J. Gaines, personal, $270.61. 

The Kevan Company will assume the settlement of the affairs of the 
association, provided the individual members will pay what is necessary 
to do so, and, of course, to pay the Kevan Company whatever may be 
due to it. 

Show the least amount necessary from them all or any member to 
effectuate this and close out the old association. The relationship of each 
member of the syndicate must be shown on the final statement. 

151 



C. P. A. QUESTIONS AND ANSWERS 

Answer: 

OLD ASSOCIATION. 

Balance Sheet April 30, 1910. 

ASSETS. 

Equity in properties $54,776.33 

Rents receivable .$1,430.00 

Less prepayment 25.00 1,405.00 

Total assets $56,181.33 

LIABILITIES. 

Interest accrued on mortgages $ 2,886.12 

Water rents accrued 995.88 

Taxes accrued 202.86 

Due to Kevan Company 3,913.34 

Total current liabilities $ 7,998.20 

Owing to members $6,987.28 

Due from members 304.15 

6,683.13 
Capital of members 41,500.00 



$56,181.33 



Net capital or interest of members, $48,183.13. 



Statement of Sale and Profit Adjustment, April 30, 1910. 
Sale of equity in 35 houses for stock in Company, 3,000 shares 

at $25 each $75,000.00 

Deduct equity in houses, including improvements and carrying 

charges to date 54,776.33 

Profit on sales $20,223.67 

The profit is to be distributed to the various partners in proportion to 
their capital holdings, regardless of their personal accounts with the syn- 
dicate. This distribution is shown on the accompanying tabulated state- 
ment. 

Status of Capital Accounts Upon Dissolution, April 30, 1910. 



Member 


Share 


Capital 


Persor 


al Ac. 


Gain 
Cr. 


New 

Stock 

Dr. 


Paid in 

Cash 

Balance 

Dr. 


Gets 

Shrs. 
Stock 




Dr. 


Cr. 


E. Coke 


5-40 

1-10 

1-5 

1-40 

1-8 

1-10 

9-40 

1-10 


$5,187.50 
4,150.00 
8,300.00 
1,037.50 
5,187.50 
4,150.00 
9,337.50 
4,150.00 




$1,425.80 
1,119.65 
2,281.28 
285.16 
775.80 
828.98 
270.61 


$2,527.96 
2,022.37 
4,044.73 
505.59 
2,527.96 
2,022.37 
4,550.32 
2,022.37 


$9,375.00 
7,500.00 

15,000.00 
1.875.00 
9,375.00 
7,500.00 

16.875.00 
7,500.00 


$233.74 

207.98 

373.99 

46.75 

883.74 

498.65 

2,716.57 

1.631.78 


375 


S. Coler 


300 


A. Maddis 

D. Sale 


600 
75 






375 


B. Divin 




300 






675 


J. Mutr 


304.15 


300 








Total 


40-40 


$41,500.00 


$304.15 


$6,987.28 


$20,223.67 


$75,000.00 


$6,593.20 


3000 



Note — Stock in new company is apportioned to members on the basis of $25 per share. 

The partners must pay in to the syndicate $6,593.20, which shall then be turned over to the Kevan Company 
to settle current liabilities, less rents due and unpaid, as per statement of assets and liabilities. 
The relationship of each member is clearly shown above, and the amount due from each. 



152 



PRACTICAL ACCOUNTING 

Journal Entries on Books of Syndicate. 

The following entries are given to show the steps in making the 
various adjustments at the time of sale. It is presumed that entries have 
already been made for rent accrued and prepaid, interest accrued, water 
rates, taxes, etc., and that mortgage account has been closed into real 
estate. 

April 30, 1910. 

Entry No. 1. 

Corporation stock $75,000.00 

To Real Estate $75,000.00 

For sale of equity in real estate valued at $54,776.33 in exchange for 

shares of stock valued at $75,000.00. 

Entry No. 2. 

Real estate $20,223.67 

To Capital accounts $20,223.67 

For profit on sale of equity in 35 houses, distributed to the partners 
in proportion to holdings. (See accompanying tabular statement for dis- 
tribution.) 

Entry No. 3. 

Personal accounts $ 6,997.28 

To Capital accounts $ 6,997.28 

For adjustment of personal accounts into the corresponding capital 

accounts. (Distribution shown in tabular statement.) 

Entry No. 4. 

J. Muir, capital $ 304.15 

To J. Muir, personal : $ 304.15 

For adjustment of personal account as above. 

Entry No. 5. 

Kevan Company $ 1,405.00 

To Rent account $ 1,405.00 

For entry of accrued rent to account of Kevan Company for settle- 
ment, per agreement. Balance of rent account used. 

Entry No. 6. 

Interest accrued $ 2,886.12 

Water rates accrued 995.88 

Taxes accrued 202.86 

To Kevan Company $ 4,084.86 

For liabilities of the syndicate assumed by Kevan Company, per 
agreement. 

Entry No. 7. 

Capital accounts $75,000.00 

To Corporation stock $75,000.00 

For distribution of corporation stock to the eight partners in propor- 
tion to their holdings. (Distribution shown in tabular statement.) 

153 



C. P. A. QUESTIONS AND ANSWERS 

Entry No. 8. 

Cash $ 6,593.20 

To Capital accounts $ 6,593.20 

For cash received from partners in settlement of their balances. 

(See tabular statement.) 

Entry No. 9. 

Kevan Company $ 6,593.20 

To Cash $ 6,593.20 

For payment of amount due them on contracts and for accounts of the 

syndicate taken over by them, per agreement. 

The above entries close off all of the accounts of the syndicate, and 

the stock received by the partners is divided in proportion to interests. 

The account of the Kevan Company would appear as follows : 

Kevan Company. 

1910. 1910. 

April 30— Rent $1,405.00 April 30— Balance $3,913.34 

April 30— Cash 6,593.20 April 30— Interest • • 2,886.12 

April 30— Water rates 995.88 

April 30— Taxes 202,86 



$7,998.20 $7,998.20 



Comments. 

The problem does not state the book value of real estate held by 
the syndicate nor the amount of mortgages outstanding against it. The 
equity, however, is given as $54,776.33, the excess of real estate valuation 
over and above the mortgage incumbrance. The interest accrued on mort- 
gages is given, but we are not told for what length of time nor at what 
rate per cent. We might consider it as for four months at 6%, thereby 
giving mortgages payable as $144,306.00 (2% — $2,886.12) and real estate 
as $199,082.33 ($144,306.00 plus $54,776.33), or a valuation of $5,688.07 per 
house. This estimate, however, is not reliable, since the time and rate 
are not known. The equity given, $54,776.33, includes, no doubt, all 
carrying charges such as interest, taxes and water rates, as shown in the 
accompanying statement. It is the custom of building operators to add to 
the original value of the properties proportional amounts for maintenance, 
improvements and carrying charges, but it is evident that the longer the 
houses are carried the lower will the net profit be when sold. 

We are not told the name of the company whose stock was received 
in payment for equities in real estate, but it presumably was the Kevan 
Company, since it has agreed to assume the settlement of current accounts. 
The current accounts have been adjusted into the Kevan Company's 
account, as shown herewith. The gain from rents receivable and the 
losses for accrued charges have evidently been adjusted through profit 
and loss account into real estate account or to the credit of the partners' 
personal accounts. The latter is presumed. The accompanying journal 
entries are not asked for, but are given in order to show in proper 
sequence the steps required in making the several adjustments. The 

154 



PRACTICAL ACCOUNTING 

accompanying tabulated statement shows the condition of each part- 
ner's account, as well as totals, both before and after adjustment, ami 
it includes the apportionment of profits and of shares of stock to the 
various partners. The balance remaining indicates the amount each 
must pay up for the satisfaction of obligations owing to the Kevan 
Company. Shares of stock are assumed as having a par value of $25.00 
each. The fact that there are 28 tenants has no particular bearing on the 
results to be obtained. 



Problem No. 2. 

The Boulevard Land Corporation is organized in your home city 
for the purpose of acquiring 100 acres of land, having the same laid off 
into suitable lots for residential property. 

The company is capitalized at $25,000, which stock is taken in equal 
amounts and paid for by ten stockholders. The property is purchased 
for $35,000.00; a first mortgage being accepted for $15,000.00 and the 
balance $20,000.00 paid in cash, the remaining $5,000.00 derived from sale 
of capital stock being used to advertise and pay expenses of putting the 
property on the market. 

There is a release clause in the mortgage providing that all owners 
of lots on the boulevard can obtain clear title by paying $25.00 per front 
foot to the mortgagee, all other lots being released at rate of $15.00 per 
front foot. 

The stockholders decided to reserve ten lots 50 feet in width ; facing 
the boulevard, for their own use ; each stockholder drawing a lot number 
from a hat to ascertain which one of the ten should belong to him. 

A and B are engaged in the real estate business and are also stock- 
holders in this corporation, and by vote of the stockholders are appointed 
the general sales agents for the Boulevard Land Corporation. 

In making an audit of the accounts you find that the company has paid 
$9,500.00 in release ; $7,000.00 to release lots purchased by outsiders ; and 
$2,500.00 to pay for the release of free lots drawn by A and B as stock- 
holders. Would you have any comment to make regarding this or any 
adjustments to make in the accounts? Explain in detail. 

SOLUTION. 

This question is not difficult, and in order to answer it correctly one 
must have a working knowledge of the real estate business. In this 
case we have a corporation organized for the development and sale of 
building lots. It is usual for a company of this kind to purchase a 
large tract of land and then divide it up into blocks or lots for sale to 
customers. The development of such a tract necessarily requires a con- 
siderable outlay of money and co-operation of the city authorities, the 
latter being necessary in the matter of planning the streets, sewers, water 
and other conveniences. It is usual for a development company of this 
kind to issue a mortgage, as in this case, as part of the purchase money, 
with some understanding as to the method of making releases of indi- 

155 



C. P. A. QUESTIONS AND ANSWERS 

vidual lots purchased by customers who desire clear titles. It is not 
unusual to make these sales of lots to persons who cannot lift the mort- 
gage, in which case said mortgage is usually permitted to remain as it 
is, or a transfer made from the operating company to the purchaser; that 
is, the mortgagee will now hold the mortgage from the purchaser cover- 
ing this building lot. 

We see that the present mortgage provides for a release of lots 
and transfer of title by payment to the mortgagee of so much per lot. 
This payment, of course, is applied to the reduction of the original mort- 
gage of $15,000. The question might be raised as to the right of the direc- 
tors to reserve ten lots as stated, for their own use. So long as the 
company is doing well, however, and no one is imposed upon by this 
transaction, the auditor would hardly be justified in criticising it. The 
fact that the ten lots have been reserved does not necessarily mean that 
all of the persons who drew them have secured clear titles to their lots. 
It seems, however, that A and B have taken title, as is evident by the 
payment of $2,500 shown in question. 

We are told that the company has paid $9,500 in releases, $7,000 
of this belonging to lots purchased by outsiders. Lots are usually sold 
subject to mortgage, in which case the amount paid for the lot, over 
and above that required for mortgage release, goes to the company, 
while the balance is paid by the purchaser to the mortgagee. It is not 
unusual, however, for development companies to accept the entire amount 
from the purchaser and then transfer the required amount to the mort- 
gagee for the purchase of clear title. In the present case it appears that 
purchase moneys were paid to the Land Company, and it in turn purchased 
releases from the mortgagee. We are not told whether titles to lots 
drawn by, the stockholders were purchased by the company from the mort- 
gagee without payment for same having been made by said stockholders. 
We are presuming that each stockholder is to purchase his own release 
in making entries for the transaction. 

The lots taken by stockholders may be charged up as selling expenses 
or as promotion expenses, as the case may be. In any case a resolution 
legalizing the matter should be passed by the board of directors and 
placed upon the minutes of the company. As stated before there is nothing 
wrong with the transaction, and it no doubt would have been advisable 
to handle them in the form of dividends, in which case the directors would 
necessarily have declared a dividend payable in building lots. 



Journal Entries. 

Entry 1. Cash $25,000.00 

To Capital stock $25,000.00 

For incorporation of the Boule- 
vard Land Corporation with a 
capital stock of $25,000.00 paid in 
full by the ten stockholders men- 
tioned herewith. 

156 



PRACTICAL ACCOUNTING 

Entry 2. Real estate 35,000.00 

To Mortgage payable 15,000.00 

To Cash 20,000.00 

For purchase of 100 acres of land 
for the development and sale of 
building lots. The mortgage con- 
tains release clauses as specified 
herewith. 

Entry 3. Selling expenses 5,000.00 

To Cash 5,000.00 

For advertising and selling ex- 
penses. 

Entry 4. Customers and Cash 20,000.00 

To Sale of lots 20,000.00 

Amount assumed as sales of lots, 
though considerable more than 
this may have been made. No 
particulars are given on this point. 

Entry 5. Mortgage payable . 9,500.00 

To Cash 9,500.00 

For obtaining clear title to lots by 
release of mortgage. This, of 
course, is on the presumption that 
the purchase money has all been 
received by the company. 

Entry 6. In case the company makes sale of and re- 
ceives only its equity in lots and the 
mortgages are assumed by purchasers, 
the entries would be similar to the fol- 
lowing : — 

Cash 700.00 

Mortgage payable , 300.00 

To Sale of lots ........ 1,000.00 

Entry 7. When drawings were made by the stock- 
holders an entry similar to the follow- 
ing would be in order, thus taking 
credit for these transfers in the sales 
account. 

Selling expenses 5,000.00 

To Sales of lots 5,000.00 

For reservation of ten lots for 
benefit of stockholders, per agree- 
ment of the directors. 

157 



C. P. A. QUESTIONS AND ANSWERS 

In case a dividend had been declared an entry debiting profit and loss 
and crediting dividend would be in order. Under this plan dividend would 
be debited and either sales or stockholders credited. If stockholders are 
to be credited it would indicate that they had been charged with lots at 
the time the reservation was made. 

As already stated the directors and stockholders may be given these 
free lots if they wish, so 1 long as no one else is injured. 

The company (the ten stockholders) has paid for the property and 
may dispose of it as it sees fit. An auditor would be concerned only to 
see that all stockholders agreed to the matter, and to see that capital stock 
was not impaired. Probably a few adjusting entries would be needed, but 
as we are not given any data as to what entries have already been made, it 
is impossible to advise what additional entries or adjustments are needed. 



STOCK BROKERS' ACCOUNTS. 
Problem No. 1. 

A, B AND C form a co-partnership to engage in the business of buy- 
ing and selling stocks on commission.. A is a special partner and B and C 
are active partners. A and C each contribute $100,000 cash capital, and B, 
who owns a seat in the Stock Exchange valued at $75,000 turned in, con- 
tributes $25,000 additional capital. A is to receive interest on his capital 
at 6% and 1-6 of the net profits. B and C are each to receive 5-12 of the 
net profits. 

At the end of the first year the condition of the business is as follows: 
Capital (subject to profits and withdrawal) as originally invested. 
New York City bonds, 4%, purchased at par for office account. . .$3,100,000 
Stock in office safe purchased for account of customers 171,000 

Customers' accounts, long : 

No. of shares bought, 35,000, market price 2,500,000 

Cash margin, par 10% ■ 350,000 

Balance .' $2,150,000 

Customers' accounts, short : 

No. of shares sold, 6,500, market price 585,000 

Cash margin, par 10% s 65,000 

Balance '. $ 650,000 



Bank loans on city bonds, par value $3,000,000 less 5% margin. 

Bank loans on stocks, market value $624,000 less 20% margin. 

Stocks borrowed and loaned to account for full complement of securities. 

Commission earned, $88,700; excess of interest earned over interest paid, 

exclusive of interest on A's capital, $41,300. 
Office salaries, $7,800; office expenses, rent, etc., $40,000. 
Partners' drawings, A, $15,000; P», $30,000; C, $30,000. 

Prepare a statement showing the cash on hand, also a profit and loss 
account and a balance sheet. 

158 



PRACTICAL ACCOUNTING 



TO RECEIVE (Day and date) 



DEBITS 



CASH PAYMENTS 



Bought 
from 



No. of 
Shares 



Description 



Price 



Am't. 



Com. 



Net 
Amount 



Sundries 



L F 



Account of 



N. Y. City Bonds 
Seat on Exchange 
Stocks bought 
Stocks borrowed 
Cash Paid 



Cash Balance 



Par 



$3,100,000 

75,000 

2.500,000 

585.000 

7,800 

40,000 

15.000 

30.000 

30,000 

101.400 



56.484,200 



N. Y. City Bonds 
Membership 
Customers, Long 
Borrowed Stock 
Office Salaries 
expense 
A Drawing ac. 
B 
C 
Balance 



NOTE — In actual work all of the above columns would be used, 
order to show the various columns usually required. 



The complete form is given in 



CREDITS 





TO DELIVER (day and date) 








CASH RECEIPTS 








No. of 










Net 












Sold to 


Shares 


Description 


Price 


Am't. 


Com. 


Amount 


Sundries 


L F 


Account of 










Investment 










$100,000 
100.000 
100,000 




A Capital 

B 

C 










Cash Margins 










350,000 
65,000 




Customers, Long 
Short 










Stocks Sold 










585.000 




Short 










Loans on bonds 










2.850.000 




Bank Loans 










' stocks 










499,200 




" " 










Comm. earned 










88,700 




Commissions 










Net Int. earned 










41,300 




Interest 










Stocks loaned out 
Cash in bank 










1.705,000 




Stock Loans 






$6,484,200 














$101,400 




Balance 





Trial Balance. 

Dr. 

A. Capital 

B. Capital 

C. Capital 

A. Drawing Account $ 15,000.00 

B. Drawing- Account 30,000.00 

C. Drawing Account 30,000.00 

Real Estate 

Office Equipment 

Investments (specified) 

New York City Bonds 3,100,000.00 

Cash or Bank 101,400.00 

Petty Cash 

Customers, Long, Balance 2,150,000.00 

Customers, Short $585,000 

Margin 65,000 

Exchange Membership 75,000.00 

Borrowed Stock 585,000.00 

Loaned Stock 

Bank Loans, Bonds 

Bank Loans, Stocks 



Cr. 

100,000.00 
100,000.00 
100,000.00 



650,000.00 



1,705,000.00 

2,850,000.00 

499,200.00 



159 



C. P. A. QUESTIONS AND ANSWERS 



Commissions 

Interest Earned 

Interest on Loans 

Office Expenses 40,000.00 

Office Salaries r 7,800.00 

Telegraph Expenses 

Rent, etc 

Error Adjustment Account 

Profit and Loss 



88,700.00 
41,300.00 



$6. 134.200. 00 $6.1 34,200. 00 



Profit and Loss Account. 



EXPENSES. 

Office expenses • . $ 40,000.00 

Office salaries 7,800.00 

■Net profit 82,200.00 



$130,000.00 

Interest to A $ 6,000.00 

Profits divided: 

A. 1-6 $12,700 

B. 5-12 31,750 

C. 5-12 31,750 76,200.00 



$ 82,200.00 



EARNINGS. 

Commissions $ 88,700.00 

Interest 41,300.00 



Net profit, down 



$130,000.00 
.$ 82,200.00 



$82,200.00 



ASSETS 
New York City bonds 

Cash in bank 

Exchange membership 

Customers — Long 

Borrowed stock 



Balance Sheet. 

LIABILITIES. 
$3,100,000.00 Customers— Short: 

101,400.00 Margin deposits $ 65,000.00 

75,000.00 Sales, Short 585,000.00 

2,150,000.00 Bank Loans: 

585,000.00 Bond security 2,850,000.00 

Stock security 499,200.00 

Loaned stock 1,705,000.00 

Capital Accounts: 
A.'s investment ..$100,000 
B.'s investment .. 100,000 
C.'s investment .. 100.000 300,000.00 
Undivided Profits: 

A.'s balance 3,700 

B.'s balance 1,750 

C.'s balance 1,750 7,200.00 

$6,011,400.00 $6,011,400.00 



Stock Loans. 

Purchased for customers $2,500,000.00 

Deduct : 

Stocks Hypothecated . $624,000 

Stocks in safe 171,000 795,000.00 

Balance, Stocks loaned $1,705,000.00 



160 



PRACTICAL ACCOUNTING 

The books and records of a stock broker differ, very materially from 
those used by a trading or manufacturing concern, yet the accounts are in 
common, and the double entry principle is maintained throughout. It may 
safely be stated that stock brokers have not advanced in the lines of scien- 
tific bookkeeping as rapidly as have merchants and manufacturers, conse- 
quently the methods in use have been adhered to for many years. Of late, 
however, much improvement has been made along this line, and there are 
today numerous firms of brokers who have installed modern accounting sys- 
tems. There is still a great variety of methods in use, and no two offices 
follow the same routine throughout. By an examination of the accompany- 
ing illustration one can see how the cash journal differs from the ordinary 
forms in use in other offices. In order to fully understand the accounting 
for stock brokers, the student should have a thorough knowledge of the 
broker's business, and of the many terms that are used therein. A special 
study of the subject should be made as an introductory step. 

The broker's business is to buy and sell stocks and bonds for his cus- 
tomers, for which he gets a commission of y% of one per cent both ways, 
for buying and again for selling. He sometimes speculates, that is, buys 
and sells for his own account in the hope of making a profit by the fluctua- 
tions of the market. His income is derived from commissions and from 
interest on money advanced for customers in the purchase of stocks. 
The amount of money thus advanced over and above the margins deposited 
by the customers usually draws interest at the prevailing rate. The ex- 
penses are not unlike those of any other office, with the exception of 
telegraph charges, which are usually quite heavy. Since the broker is 
constantly borrowing from his bankers it is evident that the interest ac- 
count is likely to be an active feature in the running expenses of the busi- 
ness. The accounts usually required by stock brokers are included in the 
accompanying trial balance, but in many cases only part of them are 
used, and in some cases all expenses are included in the Expense Ac- 
count, and all interest, whether given or received, in the Interest Account. 

Books and Records. 

The stock broker does a cash business, and therefore all transac- 
tions are recorded in the cash book, a form of which is shown 
herewith. This book is the main posting medium, and is variably 
known as Cash book, Cash journal, Day book, Blotter, Cashier's journal, 
etc. It is usually a large bound book with double pages ; the left-hand 
pages contain the cash payments, and the right-hand the cash receipts. 
Two books are used alternately, one on Monday, Wednesday and Friday, 
and the other on alternate days. The cashier uses one for the day's trans- 
actions, while the bookkeeper uses the other. The form shown is common 
to most offices, with usually some modification in the use and location of 
columns. The principal books used are cash book, ledger and journal (the 
latter very little), and all others are auxiliary. The broker desires to 
know the amount of cash received and paid, the amount in bank, the amount 
and details of bank loans, the condition of his customers' accounts ; which 
customers are "long" and which are "short," the condition of customers' 

161 



C. P. A. QUESTIONS AND ANSWERS 

margin accounts under daily market fluctuations, the various securities on 
hand or hypothecated, and for whom held; the details of "short" sales and 
for whom made, the amount and kind of stocks borrowed or loaned, the 
daily purchases and sales, the interest and adjustments on customer's bal- 
ances, the amount of gains and losses, etc. To supply this information there 
are various books and records used, nearly all of which are loose-leaf or 
cards, and specially ruled for the purpose. A trial balance is required 
monthly or oftener, and statements are rendered to customers monthly, 
quarterly or half-yearly. The customer is credited with his margin de- 
posit and interest on same, also with sales of stock for his account; he is 
debited with all purchases of stock for his account and for commissions on 
purchases and sales, also, with interest on the amount advanced by the 
broker for the purchase of securities. 

The Problem. 

Since only cash transactions take place in a stock broker's office 
it will be seen from the illustration given that all of the entries have 
been put through the cash book. A journal entry might have been 
made for the exchange membership invested by B, instead of a cash book 
entry. The data presented shows the condition of the business at the end 
of the year, therefore no attempt has been made to go back of the informa- 
tion given. It is desirable to first make up the trial balance, and in so doing 
the cash book transactions are required. This necessarily involves a care- 
ful analysis of the entire problem, and to do so necessitates a knowledge 
of the stock broker's business. It would pay the reader to trace every 
transaction through the cash book and into the trial balance. It will be 
noticed that customers' accounts have been separated as between "long" and 
"short," and that "short" sales are credited to the customers. Credit is 
not always given for "short" sales, since the account presents a false con- 
dition under such a practice. Instead of this a credit memorandum in 
short is made to the customers' accounts and the amount of short sales 
credited to the "customers short" account. 

Long and Short. 

The broker is "long" of stocks when he has them in his posses- 
sion, that is, when he has purchased stocks for his customers ; he is 
"short" of stocks when he does not have them in his possession, that 
is, when he sells for account of customers who do not own the stocks, 
but expect to buy them at a lower quotation, thus realizing a profit on 
the decline of price. Since every sale of stock, however, requires an actual 
delivery, the broker must get the stock somewhere in order to complete 
the transaction for his customer. To make delivery he borrows temporarily 
(or rather buys, since the market values must be paid for them), from 
another broker and returns them as soon as the "short" has been covered, 
that is, as soon as he has bought said stock for his customer's account. 
When the broker is long of stocks, either his own or those belonging to 
customers, he may hypothecate them at the bank, loan them to other 
brokers or use them to complete "short" sales. When he loans stocks 

162 



PRACTICAL ACCOUNTING 

it is equivalent to a temporary sale, as he receives the cash for same and 
usually pays a low rate of interest, but such loans are made subject to 
returns when called, either the same day or later. Most transfers are made 
through the Stock Exchange Clearing House, but space will not permit of a 
mention of its workings. The question states that stocks were borrowed 
and loaned to complete the transactions. 

It will be seen in the problem that the "short" sales amount to $585,000, 
as recorded in the cash book and credited to customers. This necessitated 
the borrowing of an equivalent to make deliveries for which cash was paid. 
A charge was made to Borrowed Stock Account. 

In the Stock Loan Account it will be seen that the "long" stocks 
amount to $2,500,000, but the problem states that only $171,000 of these 
remain on hand. What has become of the remainder? We see that $624,- 
000 of said stock was hypothecated as security for bank loans, then the re- 
maining stock, valued at $1,705,000, must have been loaned. 



Problem No. 2. 



A STOCK BROKERAGE firm composed of three partners agreed to 
dissolve Dec. 31, 1910. 

The original investments contributed Jan. 2, 1910, were as follows: 

A, cash, $100,000; B, cash, $150,000; C, $40,000; C's Capital Account 
was credited with $80,000, and his seat in the stock exchange held by the 
firm as collateral .for the same. 

The partnership agreement recites the following facts : A is allowed to 
withdraw $10,000 and charge same to expense ; B is allowed to withdraw 
$15,000 and charge same to expense; C is allowed to withdraw $20,000 and 
charge same to expense. 

Interest on partners' capital 5% per annum on original amount, profits 
or losses to be shared equally. 

The interim transactions during the year as transcribed from the 
blotter were: 

Purchases of 1,000 bonds, par value $1,000 each, for $1,005,000.00, ma- 
turing January 2, 1920. 

Purchase of stock for customers, long, 50,000 shares (par value $100) 
for $4,750,000. 

Sale of stock for customers, short, 50,000 shares (par value $100) for 
$4,625,000. 

Margin reecived in cash from customers, long, $500,000. 

Margin received in cash from customers, short, $500,000. 

The following loans were made from banks on securities : 

On bonds, $750,000; interest paid in full to Dec. 31, 1910, $32,500. 

On stocks, $150,000; interest paid in full to Dec. 31, 1910, $6,000. 

To complete transactions for account of customers all stocks were 
either borrowed or loaned. < 

The earnings comprised commissions $175,000 received in full; interest 
receivable $85,000, of which $70,000 was collected. 

The expenses were $62,500 (exclusive of partners' allowances or inter- 
est paid on capital), of which $2,500 remained at time of dissolution. 

163 



C. P. A. QUESTIONS AND ANSWERS 

The partners had withdrawn as follows: A, $16,500; B, $18,750; 
C, $18,500. The market value of the bonds was $1,004,500. 

The Stock Exchange seat was finally sold to B for $85,000, the profit 
therefrom reverting to the firm. 

Prepare statement, prior to dissolution, showing (a) Cash Receipts and 
Disbursements and balance on deposit in bank, (b) Income and Expendi- 
tures, (c) condition at time of dissolution, (d) partners' respective Capital 
Accounts. 

Answer and Comments. 

In working the problem the cash book has been used as the only post- 
ing medium, since in the offices of stock brokers it is the main book through 
which all entrties are posted. If desired, separate journal entries may be 
used for the various transactions in order to show them in proper sequence. 
Such entries could be studied in connection with the accompanying cash 
book as an aid to a better understanding of the subject. It will be seen 
that everything is placed in the cash book, and that amounts are shown on 
both sides thus supplying both debits and credits to the amounts involved. 
C's investment of $120,000 includes the stock exchange seat valued at $80,- 
000. This was later sold to B for $85,000, thereby netting a gain of $5,000 
to the firm. This sale is shown on both sides of the cash book, but in a case 
of scientific bookkeeping only such transactions as affect cash would be 
placed in the cash book, while all others would appear in the journal. The 
salaries and drawings of partners can be clearly understood from the 
records made. Interest on capital is included in the revenue statement as 
part of the profits for the year. 

The interim transactions shown in the question evidently do not in- 
clude all of the business transacted for the year. This is evidenced by the 
fact that the commission earned amounts to $175,000, which must have 
been computed on a much larger volume of business than is shown in the 
problem. The amount entered to customers short and customers long may 
or may not include the commissions, though it is customary to include com- 
missions in the charges to long customers and to deduct them from the 
credits to short customers. In order to be on the safe side entries for com- 
missions are omitted other than for the sum given. It seems evident, how- 
ever, that the present customers have paid only margins and not commis- 
sions, and therefore should be charged for commission on the transactions 
shown, if said commissions have not already been included in the amounts 
given. If entries have not yet been made then $6,250 should be charged to 
short customers, and a like amount to long customers, with a correspond- 
ing credit to commission account. 

Since the problem states that all stocks have been borrowed or loaned 
to complete transactions, it is assumed that all stocks for short sales 
have been borrowed in order to make delivery. On the other hand, all long 
stocks have been loaned to other brokers, less $187,500 assumed to have 
been hypothecated with the bank as security for loans. This is on the 
assumption that collateral loans are on a 20% margin, that is, that the 
amount loaned is 80% of the collateral hypothecated. The collateral ac- 
count at this time should show only bonds on hand less amount hypothe- 
cated for bank loans. 

164 



PRACTICAL ACCOUNTING 

Interest paid and received is shown on the respective sides of the cash 
book, omitting, of course, interest on capital as shown in the revenue ac- 
count. Bond interest is assumed to be payable on July 1st and January 1st, 
the latter being payable on January 2d, due to the 1st being a holiday. On 
this presumption $25,000 is allowed for six months' interest accrued on 
bonds at five per cent. 

The expenses incurred amount to $62,500, as shown in the cash pay- 
ments, of which there is $2,500 still outstanding unpaid. In case this $2,500 
is assumed to mean expense charges still on hand in the form of inventories, 
then the net pro'it would be increased by $2,500, and the cash balance de- 
creased to the same extent, with a similar increase in capital. The bank 
account called for is equivalent to the balance shown by the cash book 
in case all moneys have been deposited. The statement of Income and Ex- 
penditures is very simple and will speak for itself. It will be noted that 
interest received and interest paid are placed on their respective sides 
of the statement in order to show the full transactions from interest ac- 
count. It would not be wrong to place the balance of interest as a single 
item under Income. 

The Statement of Assets and Liabilities is clear enough without further 
comment. It shows the firm's condition at time of dissolution. 

The customers' accounts show only the transactions involved in the 
problem and including the interest charged to and paid by customers long. 
Short customers are not as a rule debited or credited with interest. The 
interest account is shown on a separate page, also the collateral account. 

The partners' accounts are shown as on December 31st, exhibiting all 
of the transactions in connection with Investment, Withdrawals, etc. 

Cash Statement for Year 1910. 

Cash Receipts. 

1910 

Tan. 2 A Capital Cash Investment $100,000.00 

B Capital Cash Investment 150,000.00 

C Capital Cash Investment $40,000.00 

Stock Exchange Seat 80.000.00 

'120,000.00 

Customers Short Short sales 4,625,000.00 

Commissions Transactions for Customers 175,000.00 

Collateral Loans X Rank— Bond Securities 750.000.00 

Collateral Loans Y Bank— Stock Securities 150,000.00 

Stock Loans Customers Long Stks. loaned on street 4,562,500.00 

Customers Long Cash Margins 500,000.00 

Customers Short Cash Margins 500,000.00 

Interest Account On Customers' Debit Balances 85,000.00 

Customers Long Interest Collected 70,000.00 

July 1 Interest Account On Bonds Owned 6 mo. 5% 25,000.00 

Dec. 31 Bond Account Loss and Gain to mark bonds to Mar- 
ket Price 500.00 

Sund. Expenses Unpd 2,500.00 

A Personal Salary for Year 10,000.00 

B Personal Salary for Year 15,000.00 

C Personal Salary for Year 20,000.00 

Interest Account Interest on Bonds 6 mo., 5% 25,000.00 

Stock Exchange Seat.. Transferred to B 85,000.00 



$11,970,500.00 



Cash Balance $1,115,250.00 

165 



C. P. A. QUESTIONS AND ANSWERS 

Cash Payments. 
1910 

Jan. 2 Stock Exchange Seat. . Contributed by C per Contract $ 80,000.00 

Bond Account $1,000,000, Bonds, Firm's Account 1,005,000.00 

Customers Long Long Stocks Purchased 4,750,000.00 

Stocks Borrowed Against Short Sales 4,625,000.00 

Interest Account On Collateral Loans, Bonds. $32,500.00 

Stocks. 6,000.00 

38,500.00 



Customers Long Interest on Debit Balances 85,000.00 

Expense Account ... ... Running Expenses 62,500.00 

Expense Account Partners' Salaries — 

A $10,000.00 

B 15,000.00 

C 20,000.00 

45,000.00 



A Personal Drawings for year 16,500.00 

B Personal Drawings for year 18,750.00 

C Personal Drawings for year 18,500.00 

Dec. 31 Loss and Gain To Mark Bonds Down to Market Price. 500.00 

Int. Accrued on Bonds. 6 months, 5% ' 25,000.00 

B Capital Stock Exchange Seat Transferred 85,000.00 

Dec. 31 — Balance on deposit in bank • • 1,115,250.00 



$11,970,500.00 



Income and Expenditures for Year Ended Dec. 31, 1910. 

Income. 
Commissions on Transactions for Customers. . $ 175,000.00 

Interest— Earned 135,000.00 

Gain on Sale Stock Exchange Seat to B * 5,000.00 

Total Income $ 315,000.00 

Expenditures. 

Running Expenses $ 62,500.00 

Interest Paid on Call Loans 38,500.00 

Partners' Salaries : 

A for Year $10,000.00 

B for Year 15,000.00 

C for Year 20,000.00 

45,000.00 

Loss on Marking Bonds to Market Value 500.00 

Total Expenditures 146,500.00 

Net Profit Carried Down 168,500.00 

$ 315,000.00 $ 315,000.00 
Interest on Capital : ===== , 

A 5% on $100,000.00 5,000.00 

B 5% on 150,000.00 7,500.00 

C 5% on 120,000.00 6,000.00 



$ 18.500.00 
Balance Net Profit for Distribution... 150,000.00 



16G 



PRACTICAL ACCOUNTING 

Distribution of Profits: 

A y 3 Cr. to his account ' $ 50,000.00 

B y 3 Cr. to his account 50,000.00 

C Yz Cr. to his account 50,000.00 

$ 150,000.00 



Balance Sheet, Dec. 31, 1910. 

Assets. 

Cash in Bank .$1,115,250.00 

Bonds Owned— Market Value 1,004,500.00 

Customers Long — Debit Balances on Stocks 

Carried 4,265,000.00 

Interest Accrued on Bonds Owned 25,000.00 

Total Assets $6,409,750.00 

Liabilities. 
Collateral Loans : 

Bonds, X Bank $ 750,000.00 

Stocks, Y Bank 150,000.00 

$ 900,000.00 

Stock Loans 4,562,500.00 

Customers — Short Contracts : 

Credit Balance $5,125,000.00 

Less Market Value Stocks. . . . ,4,625,000.00 

Net Credit Balance 500,000.00 

Sundry Expenses Unpaid 2,500.00 

Total Liabilities $5,965,000.00 

A Capital Account 148,500.00 

B Capital Account 118,750.00 

C Capital Account 177,500.00 

$6,409,750.00 $6,409,750.00 



Capital and Customers' Accounts. 

Customers Long Dr. Cr. Dr. Balance. Cr. Balance. 

Stocks Bought $4,750,000.00 

Interest on Debit Balances 85,000.00 

Cash Margins $500,000.00 

Interest Collected 70,000.00 $4,265,000.00 

Customers Short Dr. Cr. Dr. Balance Cr. Balance 

Stocks Sold Short $4,625,000.00 

Cash Margins 500,000.00 

Market Price Stocks Short. ..$4,625,000.00 $500,000.00 
Note. — All previous commissions have been paid and are not shown in above 

accounts, and commissions on above items are assumed to have been included in 
the entries. 

167 



C. P. A. QUESTIONS AND ANSWERS 

Interest Account Dr. Cr. Dr. Balance Cr. Balance 
Interest on Collateral Loans.. $ 38,500.00 

Int. on Customers' Dr. Balances. $85,000.00 

Int. on Bonds to July 1st 25,000.00 

Int. on Bonds payable Jan. 2.. . 25,000.00 $ 96,500.00 

Partners' Accounts, Dec. 31, 1910. 

A CAPITAL. 

Drawings $ 16,500.00 Capital Invested $100,000.00 

B-lance 148,500.00 Salary 10,000.00 

Int. on Capital 5,000.00 

Vi Net Profit 50,000.00 



$165,0 00.00 $165,000.00 

B CAPITAL. 

Drawings $ 18,750.00 Capital Invested $150,000.00 

Stock Exchange Seat 85,000.00 Salary 15,000.00 

Balance 1 18,750.00 Int. on Capital 7,500.00 

V 3 Net Profit. 50,000.00 



$222,500.00 $222,500.00 



C CAPITAL. 

Drawings $ 18,500.00 Capital Invested $120,000.00 

Balance 177,500.00 Salary 20,000.00 

Int. on Capital 6,000.00 

y 3 Net Profit ■ 50,000.00 



$196,000.00 $196,000.00 



AMALGAMATIONS AND MERGERS. 
Problem No. 1. 

THE CAMBRIA COMPANY was incorporated with a capital of 
$500,000, divided in 5,000 shares of $100 each, to take over the assets and 
liabilities of the firm of John Martin & Company and Charles Burton & 
Company. 

John Martin and Henry Scott, his partner, each contributed $20,000 
in cash to the company, and received in payment stock of the company 
at par. 

Charles Burton and Thomas James, his partner, each contributed 
$15,000 in cash to the company, and received in payment stock of the 
company at par. 

The net assets of the firm of John Martin & Company were purchased 
by the company at 75 per cent of their ledger values and full-paid stock 
of the company given therefor. The net assets of the firm of Charles Bur- 
ton & Company were purchased by the company at 60 per cent of their 
ledger values and full-paid stock given by the company in payment 
therefor. 

The condition of the ledger accounts of the vendors was as follows : 

16S 



PRACTICAL ACCOUNTING 

Assets and Liabilities of John Martin & Company. 
ASSETS. LIABILITIES. 

Cash $ 5.000.00 Accounts Payable $ 27,000.00 

Real Estate (factory site).. .. 15,000.00 Bills Payable 70,000.00 

Machinery and Tools 7,500.00 John Martin, Capital Account. 18,000.00 

Raw Stock, Lumber, etc 1,000.00 Henry Scott 6,000.00 

Raw Stock, Steel, Brass, Wire, 

etc 8,000.00 

Good-Will 4,500.00 

Accounts Receivable 80,000.00 



$121,000.00 $121,000.00 



Assets and Liabilities of Charles Burton & Company. 

ASSETS. LIABILITIES. 

Raw Stock $ 25,000.00 Chas. Burton, Capital Account.$ 50,000.00 

Manufactured Stock 20,000.00 Thomas Jarnes •; 150,000.00 

Accounts Receivable 110,000.00 

Good-Will 45,000.00 

$200,000.00 $200,000.00 



. It was agreed that all the assets and liabilities acquired by purchase 
should appear upon the books of the company at the values shown in 
vendors' ledgers until the close of the third year, at which time good-will 
should be charged to profit and loss account. And it was stipulated that 
in the event of the legitimate profits of any year horn trading exceeding 
$20,000, the individual members of the firm of Charhs Burton & Company 
were to receive 30 per cent excess, and expense account be charged there- 
with, but if the profits were less than $20,000 they were to pay the defi- 
ciency to the company and expense account be credited therewith. 

The profit and loss account showed legitimate profits from trading, 
for the first year, amounting to $27,000; for the second year $40,000, and 
for the third year $15,000, before adjusting the claims arising from above 
stipulation as to the $20,000. The entire profits, irrespective of their 
source, were then paid to stockholders of issue as dividends in full-paid 
stock. 

Submit statement as follows : 

(a) Give aggregate of net assets at the close of the first, second and 
third years, assuming all debts to have been paid. 

(b) Give the amount due to each of the parties in interest in stock 
and undivided profits at the end of the first and second years respectively, 
assuming profit and loss accounts as being adjusted at these periods, and 
the amount of stock held by each stockholder after the actual adjustment 
of the profit and loss and dividend accounts, at the end of the third year. 

(c) Use given assets and liabilities throughout, with an additional 
account entitled "Increase," and submit balance sheets for the close of 
each period. 

Entries on Cambria Company's Books. 

Subscription $70,000.00 

To Capital Stock $70,000.00 

The Cambria Company has been incorporated with an authorized cap- 
ital of $500,000; 5,000 shares of $100 each. It is agreed that the assets and 

169 



C. P. A. QUESTIONS AND ANSWERS 

liabilities of the firm of John Martin & Company and Charles Burton & 
Company are to be taken over in payment for stock. 

Cash subscriptions have been received as follows: 

John Martin, 200 shares $ 20,000.00 

Henry Scott, 200 shares 20,000.00 

Charles Burton, 150 shares 15,000.00 

Thomas James, 150 shares 15,000.00 

Cash $ 70,000.00 

To Subscription $ 70,000.00 

For payment of subscriptions shown above. 

Cash $ 5,000.00 

Real Estate 15,000.00 

Machinery and Tools 7,500.00 

Raw Stock— Lumber, etc 1,000.00 

Raw Stock — Steel, brass, wire, etc 8,000.00 

Good Will 4,500.00 

Accounts Receivable 80,000.00 

To Accounts Payable $ 27,000.00 

To Bills Payable 70,000.00 

To John Martin & Company 18,000.00 

To Contingent Account . 6,000.00 

For assets and liabilities of John Martin & Company purchased this 
day in exchange for full paid stock of the company. 

The net assets, $24,000.00, are taken over at 75 per cent of their ledger 
values, or $18,000.00, as per agreement. 

John Martin & Company $ 18,000.00 

To Capital Stock... $18,000.00 

For 180 shares of stock issued to John Martin & Company for net 
assets of firm, as per agreement, and divided in proportion to respective 
interests : 

John Martin, 135 shares $ 13,500.00 

Henry Scott, 45 shares 4,500.00 

$ 18,000.00 

Raw Stock $ 25,000.00 

Manufactured Stock 20,000.00 

Accounts receivable 1 10,000.00 

Good Will 45,000.00 

To Charles Burton & Company $120,000.00 

To Contingent Account 80,000.00 

For assets of Charles Burton & Company purchased at 60 per cent 
of their par value, in exchange for full paid stock. 

Charles Burton ^./Company $120,000.00 

To Capital Stock $120,000.00 

170 



PRACTICAL ACCOUNTING 

For 1,200 shares of stock issued for net assets, as per agreement, 
divided in proportion to respective interests : 

Charles Burton, 300 shares $ 30,000.00 

Thomas James, 900 shares 90,000.00 

There are still 2,920 shares of stock of the company unsubscribed, to 
be disposed of at the will of the directors. 

End of First Year: 

Increase in Assets $ 27,000.00 

To Profit and Loss $27,000.00 

For Profits on trading for year entered to "Increase" as per agreement. 

Profit and Loss $ 2,100.00 

To Charles Burton & Company $ 2,100.00 

For portion of profits allowed to Charles Burton & Company per agree- 
ment, it being 30 per cent of $7,000, the excess of profits over and above 
$20,000, the stipulated amount. 

Profit and Loss $ 24,900.00 

To Undivided Profits $ 24,900.00 

For unapportioned profits held for future disposition. 

Accounts Payable $ 27,000.00 

Bills Payable 70,000.00 

To Cash $ 97,000.00 

For payment of outstanding debts. 

End of Second Year: 

Increase in Assets .' $ 40,000.00 

To Profit and Loss $ 40,000.00 

Profits on trading for year. 

Profit and Loss $ 6,000.00 

To Charles Burton & Company $ 6,000.00 

For portion of profits allowed to Charles Burton & Company. 

Profit and Loss $ 34,000.00 

To Undivided Profits $ 34,000.00 

Balance of profits held for future disposition. 

End of Third Year: 

Increase in Assets $ 15,000.00 

To Profit and Loss $ 15,000.00 

Profit on trading for year. 

Charles Burton & Company $ 5,000.00 

To Profit and Loss ." $ 5,000.00 

For deficiency in profits paid by Charles Burton & Company by 
agreement. 

Profit and Loss $49,500.00 

To Good Will $ 49,500.00 

Good-Will charged off as loss, as per agreement. 

171 



C. P. A. QUESTIONS AND ANSWERS 

Contingent Account t $ 86,000.00 

To Profit and Loss ' $ 86,000.00 

Undivided Profits $115,100.00 

To Capital Stock $115,100.00 

Entire amount of undivided profits for three years, less $300, being 
uneven amounts paid in stock to stockholders of issue in stock of the com- 
pany, per dividend apportionment. 

Burton & Company $ 3,100.00 

To Cash $ 3,100.00 

For settlement of account per agreement. 

Allowance from Assets purchased at beginning, apportioned to profits 
per agreement. 

Profit and Loss $ 56,500.00 

To Undivided Profits $ 56,500.00 

For Balance of Profits for disposition. 

Profit and Loss Account. 

First Year 

To Expense $ 2,100.00 By Net Profits $ 27,000.00 

30 per cent of Excess Profits, 
$7,000, given to Charles Bur- 
ton & Company. 

Balance, Undivided Profits... 24,900.00 



$ 27,000.00 $27,000-00 

Profit and Loss Account. 

Second Year 

Total Expense $ 6,000.00 By Net Profits ...$40,000.00 

30 per cent of Excess Profits, 
20,000, given to Charles Bur- 
ton & Company. 

Balance Undivided Profits 34,000.00 



$ 40,000.00 $ 40,000. 00 

Profit and Loss Account. 

Third Year By Net Profits $ 15,000.00 

To Good-Will $ 49,500.00 " Expense 5,000.00 

" Bal., Undivided Profits.... 56,500.00 Deficiency in profits paid by 

Charles Burton & Company. 
By Contingent Account 86,000.00 

$106.000.00 $106,000.00 

Undivided Profits. 

To Capital Stock $115,100.00 First Year $ 24,900.00 

John Martin, 185 shares Second Year 34,000.00 

Henry Scott, 135 shares Third Year 56,500.00 

Chas. Burton, 249 shares 
Thos. James, 582 shares 

To Balance 300.00 

Uneven Amounts due to 

stockholders. 

$115.400.00 $115,400.00 

By Balance $ 300.00 

172 



PRACTICAL ACCOUNTING 

Comparative Balance Sheet for Three Years. 



ASSETS 


At 
Beginning 


First 
Year 


Second 
Year 


Third 
Year 


Cash 


$ 75,000.00 


$ 75.000.00 


$ 75,000.00 

15,000.00 

7,500.00 

34,000 . 00 

20,000.00 

190,000.00 


$ 75,000.00 


Real Estate 


15,000.00 15.000.00 


15,000.00 


Machinery and Tools 


7,500.00 

34,000.00 

20,000.00 

190,000.00 


7,500.00 

34,000.00 

20,000.00 

190,000.00 


7,500 . 00 


Raw Stock 


34,000.00 


Manufactured Stock 


20,000 . 00 


Accounts Receivable 


190,000.00 


Add Increase 


$341,500.00 


$341,500.00 
27,000.00 


$341,500.00 
67,000.00 


$341,500.00 
82,000.00 

1 




$368,500.00 
97,000.00 


$408,500.00 
97,000.00 


$423,500.00 
97,000.00 








$271,500.00 
2,100.00 


$311,500.00 
8,100.00 


$326,500.00 
3,100.00 


Net Assets 


$341,500.00 
49,500.00 


$269,400.00 
49,500.00 


$303,400.00 
49,500.00 


$323,400.00 


Good- Will 






1 


Total 


$391,000.00 $318,900.00 


$352,900 . 00 1$323,400 . 00 



LIABILITIES 


Beginning f First 
1 Year 


Second 
Year 


Third 
Year 


Debts Owing 

Capital Stock Paid Up 

Contingent Account 


$ 97,000.00| 
208,000. 00 1$208,000. 00 
86,000.001 86,000.00 
24,900.00 


$208,000.00 
86,000.00 
58,900.00 


$323,100.00 


Undivided Profits 


300.00 








$391,000. 00!$318,900. 00 


$352,900.00 


$323,400.00 





Profits Apportioned to Stockholders 






NAMES 


First 
Year 


Second 
Year 


Third 
Year 


Total 


John Martin 


$ 4,010.34 

2,932.93 

5,387.02 

12,569.71 


$ 5,475.96 

4,004.81 

7,355.77 

17,163.46 


$ 9,099.76 

6.655 . 05 

12,223.56 

28,521.63 


$ 18,586 06 


Henry Scott 


13,592 79 


Charles Burton 




24,966 35 


Thomas James . 




58,254.80 










$ 24,900.00 


$ 34,000.00 


$ 56.500.00 


$115,400.00 



Stockholders' Accounts at End of Third Year 



NAMES 


Acquired 
For cash 


Old 
Business 


Divi- 
dends 


Total 
Shares 


Remarks 


John Martin 
Henry Scott 
Charles Burton 
Thomas James 


200 
200 
150 
150 


135 

45 

300 

900 


185 
135 

249 
582 


520 

380 

699 

1632 


From Capital Stock 
it ii n 

u ii ii 

ii ii it 


Unsubscribed Shares 


700 


1380 


1151 


3231 
1769 


ii ii <i 




5000 





173 



C. P. A. QUESTIONS AND ANSWERS 



Comments. 



This proposition has been selected for the purpose of illustrating the 
procedure in the incorporation of going concerns. Because of its pecu- 
liarly interesting requirements and the difficulty in interpreting them, 
there may be a variance in answers ; nevertheless, bookkeepers and 
accountancy students will find it ample food for thought. Before working 
out a question like this, the main requirements should be noted and a care- 
fully outlined plan of procedure mapped out. This will prevent repetitions 
or haphazard work. 

Journal entries are made for the entire three years in order to 
show more clearly the methods of arriving at results; and in studying 
the problem students are advised to open ledger accounts as a means 
of exhibiting the condition thereof at the end of each period. As will be 
noticed, an account for unsubscribed stock has been omitted. This is 
done for the purpose of varying from the plan shown in some other 
solutions, and for the purpose of exhibiting net assets with the least 
inconvenience. Since the assets and liabilities are to remain at their 
original valuation, during the entire three years, the Balance Sheet has 
been arranged with that end in view. Such a condition would hardly 
occur in actual business, as accounts would constantly be changing; yet 
this is a plan suggested by the examiners in testing the candidate's ability 
to analyze. Fluctuations are adjusted into an Increase account as in- 
structed. It is assumed that Bills and Accounts Payable were paid during 
the first year, and that the profit allowances to Charles Burton & 
Company are adjusted and paid at the end of the third year, at which 
time $3,100 was paid in cash. The discount on assets taken over may 
be credited to Contingent Account, to Discount on Assets, to Suspense, 
or to some other similar account, and at the time of final adjustment 
it is apportioned to profits as suggested in the problem. The undivided 
profits are all carried until the end of the third year and then paid to 
stockholders in proportion to holdings, omitting, of course, fractional 
parts of shares. Good-will is deducted in getting the net assets, but 
if thought advisable it may be included. Since it is to be written off as 
a loss, however, the omission seems advisable. 

The forms presented may be varied to suit individual tastes without 
loss of effect. The combined balance sheet is made to include the assets 
and liabilities at the beginning. The unpaid profits due to stockholders, 
$300, being fractional parts of shares, are held subject to the will of the 
directors. 

Problem No. 2. 

THE FOLLOWING is abstracted from an agreement of merger 
and consolidation made December 31, 1912, between the Pennsylvania 
Tool Co., party of the first part, and the Keystone Tool Co., party of the 
second part. Said parties of both parts being corporations duly organ- 
ized and existing under the laws of the State of Pennsylvania, by this 
agreement merge and consolidate into a single corporation. 

The name of the corporation hereby formed by said consolidation 
shall be the Pennsylvania Tool Co. 

171- 



PRACTICAL ACCOUNTING 

The amount of capital stock of the new corporation is $100,000, all of 
which shall be common stock, divided into 1,000 shares of a par value of 
$100. The manner of distributing capital stock shall be as follows : 

The capital stock of the Pennsylvania Tool Co., party of the first 
part, shall be exchangeable for capital stock of the new corporation share 
for share, and the balance of the capital stock of the new corporation 
hereby formed shall be distributed to the stockholders of the Keystone 
Tool Co. in proportion to their present holdings. 

The Pennsylvania Tool Co., party of the first part, was incorporated 
shortly before the date of the merger, and had transacted no business other 
than the issuance of ten shares capital stock, $100 each, for which pay- 
ment of $1,000 had been received, and which was on hand in the treas- 
ury of the company on the date of the merger, and directly after the 
merger transferred to the bank deposit account of the consolidated com- 
pany and credited to an account called "Suspense." 

The Keystone Tool Co. had for a number of years been actively 
engaged in business. Its fiscal year ended September 30, 1912, at which 
time an inventory was taken and its accounts had been properly closed. 
At the date of the merger the following trial balance was drawn from 
the books. 

Trial Balance Dec. 31, 1912. Debit. Credit. 

Cash $ 20,000.00 

Accounts Receivable 15,000.00 

Merchandise— Inventory Sept. 30, 1912 130,000.00 

Merchandise purchases 250,000.00 

Expenses 25,000.00 

Accounts Payable 10,000.00 

Sales 300,000.00 

Capital Stock 30,000.00 

Undivided Profits— Balance Sept. 30, 1913 100,000.00 



$440,000.00 $440,000.00 

The account books of this concern were not closed at the date of the 
merger, and no inventory was taken, although the exchange of capital 
stock was effected and also all business after December 31, 1912, was 
transacted under the name of the Pennsylvania Tool Co., and it was not 
until March 31, 1913, that an accountant was asked to state the accounts 
of the new company from the date of consolidation. 

At March 31, 1913, before the accountant had commenced his work, 
an inventory was taken which showed the value of merchandise on hand as 
at that date to be $216,250, and the following Trial Balance was abstracted 
from the books : 

Trial Balance, March 31, 1913. 

Debit. Credit. 

Cash $ 26,000.00 

Accounts receivable 10,000.00 

Merchandise inventory, Sept. 30, 1912. . . , 130,000.00 

Merchandise purchased 600,000.00 

175 



C. P. A. QUESTIONS AND ANSWERS 

Expenses 60,000.00 

Accounts payable $ 10,000.00 

Sales 685,000.00 

Suspense 1,000.00 

Capital Stock 30,000.00 

Undivided Profits 100,000.00 



$826,000.00 $826,000.00 



Prepare a Balance Sheet of the consolidated company as at March 31, 
1913, and a profit and loss account arranged to show the profits of the 
consolidated company for the three months ended March 31st; and of the 
Keystone Tool Co., for the three months ended December 31st; also state- 
ment showing the disposition of profits taken over by the new company. 

State what basis you make use of in determining the approximate value 
of merchandise on hand December 31st. 

Comments. 

In the question under review the requirements are as follows: (1) 
Balance Sheet of the consolidated company on Mar. 31, 1913 ; (2) Profit and 
Loss Account for the consolidated company for the three months ended 
Mar. 31, 1913; (3) Profit and Loss Account of the Keystone Tool Company 
for the three months ended Dec. 31, 1912; (4) Statement showing disposi- 
tion of profits taken over by the new company; (5) Basis of determining 
the approximate value of merchandise on hand Dec. 31, 1912. Adjusting 
journal entries might also be of advantage in providing a clearer exhibit 
of the necessary adjustments. 

Let us now get a clear insight into the problem. Two separate corpora- 
tions — The Pennsylvania Tool Co. an'd the Keystone Tool Co. — are to con- 
solidate and transact business hereafter as a single concern, and to be 
known as The Pennsylvania Tool Co. The capital stock of the consolidated 
company is to be $100,000—1,000 shares of $100 each. We will now look 
into the proposition from the standpoint of each company separately. 

The Pennsylvania Tool Co. : This company had just been incorporated, 
and evidently had not begun operations. Its authorized capital stock is not 
given, but $1,000 has been subscribed and paid in, and is still in the treas- 
ury. This amount is to be turned over to the new company and credited 
to a Suspense account, and an equal amount of the new company's stock 
received. It is, no doubt, credited to this account temporarily with the 
thought of having a proper adjustment later. 

The Keystone Tool Co. : This is an established company, and its fiscal 
year ended Sept. 30, 1912. It has a capital stock of $30,000, and a surplus 
of $100,000, making a total capital of $130,000. On Dec. 31, 1912, the con- 
solidation took place, the exchange having been effected on the basis of 
accounts shown by the Trial Balance of that date without closing the 
ledger. By the terms of the amalgamation the stockholders of this com- 
pany are to have all of the stock but $1,000, and will receive certificates 
for $99,000 in exchange for $30,000 of the stock of the old company. This 
is an increase of $69,000. 

17G 



PRACTICAL ACCOUNTING 

It will be seen that the capital and surplus of the Keystone Company 
amount to $100,000 on Sept. 30, and that on Dec. 31st, they have increased 
to $180,000. The increase of capital from $30,000 to $99,000 may be ad- 
justed into surplus as shown in the accompanying statements, or the $69,- 
000 may be charged to good will account. If the latter plan is followed 
the Surplus on Jan. 1, 1913, will show a credit of $150,000, and on April 1, 
$211,250. Either plan may be followed. In the former plan the Keystone 
Company turns over a Surplus of $81,000 over and above the amount of 
stock received. This is now owned by the consolidated company, but as 
the stockholders in the former company own practically all of the stock 
of the new and amalgamated company they are not losing anything by 
making the liberal donation of surplus profits. Except for the purpose of 
reorganizing and increasing its capital stock, or possibly for the purpose 
of changing its name, no gain will accrue to the Keystone Company by 
the so-called merger and consolidation. It could have declared a special 
stock dividend payable out of surplus profits and have provided for same 
by an increase of capital stock. 

Determining Value of Inventory. 

The question asks for an approximate valuation of inventory as on 
Dec. 31, 1912. The first step, as shown by Exhibit A, is to determine the 
gross gain for the entire six months ended Mar. 31, 1913, which amounts 
to $171,250. It will be noted that this gain is just one-fourth of the sales 
or one-third of the cost of goods sold; therefore we may consider the 
gains for the first three months as having been in the same proportion. The 
sales for the three months ended Dec. 31, 1912, were $300,000, and if one- 
fourth of this amount represents profits the cost of goods sold must have 
been $225,000. Deduct this amount from $380,000, the cost of all goods 
to that date, and we get $155,000, or the value of merchandise on hand. By 
adding together the gross gain in Exhibits B and D it will be seen that 
they equal the amount shown by Exhibit A, $171,250. 

The various exhibits are easily understood and, therefore, need no 
special comments. The surplus account is included for the purpose of 
showing the disposition of profits taken over from the Keystone Tool 
Company. It is presumed that the books formerly used by the Keystone 
Company are contined, and the adjusting entries which follow are made 
on that presumption. The "various official steps required in the con- 
solidation of the two corporations, the transfer of assets and liabilities, etc., 
would have to be carried out to the letter. These steps would not vary 
to any great extent from those required in the amalgamation of two un- 
incorporated concerns into one corporation, as outlined in another problem. 

Adjusting Entries, March 31, 1913. 
(Made on the various dates indicated, omitting the usual routine entries). 

December 31, 1912. 

Gash $ 1,000.00 

To Suspense [ $ 1,000.00 

For amount of cash turned over by Pennsylvania 
Company, per agreement this day. 

177 



C. P. A. QUESTIONS AND ANSWERS 

Profit and Loss 50,000.00 

To Surplus 50,000.00 

Transfer of Profits of Keystone Tool Co. 

Surplus 69,000.00 

To Capital Stock 69,000.00 

For transfer of surplus profits to capital account 
for account of Keystone Tool Co., per agree- 
ment. 

Suspense 1,000.00 

To Capital Stock 1,000.00 

For transfer of amount credited to Suspense Ac- 
count. 

March 31, 1913. 

Profit and Loss 62,250.00 

To Surplus 62,250.00 

For transfer of net gain for three months to surplus 
account. 

EXHIBIT A. 

Merchandise Account to March 31, 1913. 

DEBITS. CREDITS. 

Inventory, 9-30-12 $130,000.00 Total Sales for 6 months $685,000.00 

Purchases 600,000.00 

Total $730,000.00 

LcSS 

Inventory, 3-31-13 216,250.00 

Cost of Sales 513,750.00 

Gross Gain 171,250.00 

$685,000.00 $685,000.00 

Balance, Gross Gain $171,250.00 

Note. — This exhibit is made as a basis of determining the value of the goods on 
hand Dec. 31, 1912, as explained in comments. 

EXHIBIT B. 

Keystone Tool Company. 

Trading and Profit and Loss Account Dec. 31, 1912. 

DEBITS. CREDITS. 

Inventory, 9-30-12 $130,000.00 Sales for three months $300,000.00 

Purchases 250,000.00 

Total $380,000.00 

Less Inventory, 12-31-12 155,000.00 

Cost of goods sold. . . . .- 225,000.00 

Gross Gain 75,000.00 

$300,000.00 $300,000.00 

Expenses $ 25,000.00 Gross Gain brt. down $ 75,000.00 

Net Gain 50,000.00 

Carried to Suspense Acct . . . . $_75,00O00 $ 75,000.00 

178 



PRACTICAL ACCOUNTING 

EXHIBIT C. 

Keystone Tool Company. 

Balance Sheet, Dec. 31, 1912. 
ASSETS. LIABILITIES. 

Cash on hand '....$ 20,000.00 Accounts Payable $ 10,000.00 

Accounts Receivable 15,000.00 Capital Stock 30,000.00 

Goods on Hand 155,000.00 Surplus, 3-30-12 $100,000 

Add net gain 50,000 150,000.00 



$190,000.00 $190,000 .00 

Note. — This exhibit shows the condition of the company at the time of consoli- 
dation. The capital and surplus of $180,000.00 is given in exchange for $99,000.00 of 
stock of the new company. 

EXHIBIT D. 

Pennsylvania Tool Company. 

Trading and Profit and Loss Account, 3 months ended March 31, 1913. 
DEBITS. CREDITS. 

Inventory, 1-1-13 $155,000.00 Sales for 3 months $385,000.00 

Purchases 350,000.00 

$505,000.00 
Less Inventory 3-31-13 $216,250.00 

Cost of goods sold $288,750.00 

Gross Gain 96,250.00 

$385,000.00 $385,000.00 

Expenses $35,000.00 Gross Gain brt. down $96,250.00 

Net Gain 61,250.00 

Carried to Surplus $ 96,250.00 $ 96,250.00 



Note. — The above net gain is carried to Surplus account to await the will of 
the directors. If the fiscal year is to remain as before, then the period has arrived 
for the semi-annual dividend. 

EXHIBIT E. 

Pennsylvania Tool Company. 

Consolidated Balance Sheet, March 31, 1913. 
ASSETS. LIABILITIES. 

Cash on hand $ 26,000.00 Accounts Payable $ 10,000.00 

Goods on hand 216,250.00 Capital Stock 100,000.00 

Accounts Receivable 10,000.00 Penna. Tool Co....$ 1,000 

Keystone Tool Co. 99,000 



Surplus 142,250.00 

Acquired $81,000 

Earned 61,250 



$252,250.00 / $252,250.00 



Note. — If good will had been considered for the increase of stock of the Key- 
stone Tool Co., then good will $69,000.00 would appear among the assets and Sur- 
plus would be increased to $211,250.00. 

179 



C. P. A. QUESTIONS AND ANSWERS 

EXHIBIT F. 
Surplus Accounts. 

To capital per adjustment, Balance 9-30-12 $100,000.00 

12-31-12 $69,000.00 Added 12-31-12 50,000.00 

Balance 142,250.00 Added 3-31-13 61,250.00 

$211,250.00 $211,250.00 

Balance 4-1-13 $142,250.00 

Note. — The term Undivided Profits, as used in the question, may be used in- 
stead of Surplus. If good will had been considered, the present balance to surplus 
account would be increased by $69,000.00. 



BUILDING AND LOAN ASSOCIATIONS. 

THE FOLLOWING question has been selected as the basis for a 
discussion on Building and Loan Associations, but in order to enlarge 
more fully than this problem permits, the accompanying report of a 
Philadelphia association is made use of. 

Question. 

The Wayne Building and Loan Association has been incorporated 
under the laws of Pennsylvania, April 2, with the authorized capital of 
$1,000,000. Stock divided into two classes, full paid stock and installment 
stock, par value of each $100 per share. Monthly payments on install- 
ment stock to be sixty cents per share per month, of which ten cents per 
share may be devoted to operating expenses, etc. No part of the profits 
can be used for expenses of the association. Estimated time of the ma- 
turity of the installment stock based on the earning power of the loaning 
feature of the association is 110 months. 

The directors decide to advance $1,000 each (nine directors) for the 
creation of a fund to develop the business, and ten per cent of the ex- 
pense deductions to be set apart each year for the repayment of this nine 
thousand dollars. The secretary reports the sale of 1,000 shares of the 
installment stock on which the first month's payment of sixty cents has 
been made; he also reports the sale of 500 shares of full paid stock for 
which he received the money. 

Give the proper books for conducting the business of this association 
and for keeping its accounts, and make the opening entries from the above 
facts. 

Opening Entries. 

The entries for the question given are few and would be contained 
in the Minute Book, Cash Book, Stock Certificate Book, General Ledger, 
and Individual Ledger. A Journal is seldom used, but in this case the 
entries are given in journal form. The usual formalities of filing Articles 
of Association with the State are carried out, and letters patent issued. 
The organization then takes place, by-laws are adopted, business trans- 
acted, etc., and minutes of proceedings written up. The usual organ- 
ization expenses are required, but as they are not called for in the question 
no attempt will be made to estimate them. The entries are: 

180 



PRACTICAL ACCOUNTING 



April 2. 

Cash $ 9,000 

To Development Fund $ 9,000 

Advancement of $1,000 each from the nine directors 
fqr the creation of a fund to develop the busi- 
ness. 



Cash 



600 



600 



To Installment Stock 

For subscription of 1,000 shares of installment stock 
at 60 cents and payment of first month's dues 
thereon. 

Cash 50,000 

To Full Paid Stock 50,000 

For sale of 500 shares of full paid stock. 



Annual Report of an Association 



RECEIPTS. 

Cash on hand at last report $ 2.169 55 

Dues 69,795 50 

Interest .' 21,753 93 

Interest from Land Title & Trust Co. 

(balance) 34 06 

Interest from Union National Bank (bal- 
ance) 354 59 

Pines 171 75 

Printing Assessments 284 31 

Loans returned by Borrowers 28,100 00 

Loans canceled by maturity of 22nd series 5,250 00 

Rent from Real Estate 114 00 

Money Borrowed 56,500 00 



DISBURSEMENTS. 

210 shares 22nd Series matured and paid 

off in cash $42,000 00 

Withdrawals 22,744 47 

Mortgage Loans made during Term 53,400 00 

Stock Loans made during Term 19,800 00 

Expenses: Salaries, Advertising, Books, 

Stationery, Rent of Hall, etc 1,959 12 

Real Estate Expenses, Taxes and Water 

Rent 107 82 

Interest on Borrowed Money 716 17 

Borrowed money returned 40,500 00 

Balance in Treasury 3.300 11 



$184,527 69 



$184,527 69 



ASSETS. 

Investments in Loans at last report $341,700 00 

Investments during Term 73.200 00 

$414,900 00 

Deduct: — 
Loans returned by Borrowers $28,100 00 
Loans canceled bv maturity 

of 22nd Series 5,250 00 

$33,350 00 

$381,550 00 
Arrears due by members. . . . $618 26 
Less amounts overpaid ..... 173 00 

445 26 

Real Estate 6.000 00 

Interest accrued on Special Loan 375 00 

Balance in Treasury 3,300 11 

$391,670 37 

Deduct:— 
Money borrowed at end of Term 18,000 00 

$373,670 37 



LIABILITIES. 



Se- 


Sh'r's 




Total 


Value 


Total 


ries. 




Months 


Paid in 


Per Share 


Value 


23d 


342 


132 


$45,144 


185 85 


$63,560 70 


24th 


289* 


120 


34,740 


164 51 


47,625 65 


25th 


294* 


108 


31,806 


144 05 


42,422 73 


26th 


257 


96 


24.672 


124 48 


31,991 36 


27th 


309 \ 


84 


25.998 


105 80 


32.745 10 


28th 


411* 


72 


29,610 


88 02 


36,198 23 


29th 


422 


60 


25,320 


71 12 


30.012 64 


30th 


48 U 


48 


23,112 


55 12 


26,540 28 


31st 


683f 


36 


24,615 


40 00 


27,350 00 


32d 


909^ 


24 


21,828 


25 78 


23,446 91 


33d 


945 


12 


11,340 


12 45 


11,760 62 




$373,654 22 










Undivided 


16 15 




5,345 


1 


$298,185 




$373,670 37 



Profit on Present Shares $75,485 37 

Add profit paid during Term — 

To matured 22d Series. . . $12,390 00 

To withdrawals 1,787 47 

14,177 47 



Deduct profits to end of previous Term. . 
Profits for Term ending September 



$89,662 84 
69,676 18 



Profits to Association to September, 
Deduct Amount of Profit paid since: — 
To matured 22d Series.. . $12,390 00 
To withdrawals 1,787 47 



Profits, for year ending September, 



$69,676 18 



14,177 47 



$55,498 71 
19,986 J36 



$19,986 66 Profits on present Shares $75,485 37 



181 



C. P. A. QUESTIONS AND ANSWERS 





I 


II. 


III. 


IV. 


V. 


VI. 


VII. 


SERIES 


Number of 

Shares 

Beginning of 

Term 


Number of 

Shares 

Loaned 

on Beginning 

of Term 


Number of 
Shares 
Loaned 

on During 
Term 


No. of Shares 
Loaned on. 
Withdrawn, 
and Loans re- 
turned Dur- 
ing Term 


Number of 

Shares 

Loaned on 

at End of 

Term 


Total Number 

of all Shares 

Withdrawn 

During Term 


Total Number 
of all Shares 
Remaining at 
End of Term 


Twenty-second. . . 

Twenty-third 

Twenty-fourth. . . . 

Twenty-fifth 

Twenty-sixth 

Twenty-seventh. . 
Twenty-eighth.. . . 
Twenty-ninth. . . . 

Thirtieth 

Thirtv-fiist 

Thirty-secor.d .... 


210 

342 
292$ 
3141 
281$ 
314$ 
4.59 $ 
489 
534J 
805 1 
1041 


25 
129 1 

56 
102$ 

50 

99 
182$ 
18U 
141$ 
271$ 
319$ 


1$ 
131 

13$ 
19$ 

7i 
141 

9$ 
17$ 

6| 

8 
34| 


26$ 
6 

2 

5 
15$ 

3 

7 

22$ 
29$ 
33$ 
12J 


137$ 

67$ 
1161 

42$ 
110$ 
1841 
176$ 
1181 
246 
341$ 


210 

3 

20 

241 
5 

48 

67 

53 
122 
131$ 


342 

289$ 

294$ 

257 

309$ 

4111 

422 

4811 

6831 

9091 


Thirty-third 


5084$ 
1137 


1558$ 


146$ 
219J 


163 
31 


15411 
216 


684 
192 


44001 
945 


Total 


6221$ 


1558$ 


366 


1661 


17571 


876 


5345$ 







Explanation — Shares in Column VI. deducted from those in Column I., leave as results shares in Column VII. 

Shares in Column IV. deducted from those in Columns II. and III., added together, leave as a result 
number of shares in Column V. 

Comments. 

Philadelphia Associations make reports similar to the one shown here- 
with, though many of them include additional information for the benefit of 
stockholders. This one, however, may be taken as a typical report. It 
will be noticed that there are three divisions to the report," namely, the cash 
statement, the statement of assets and liabilities, and the analyzed exhibit 
of the various series. Sometimes additional exhibits are included (and were 
on the back of the report selected), showing the profit and loss account, the 
numbers of books in arrears with amounts, books paid in advance, analysis 
of loans, etc. 

Cash Statements. — It will be noticed that the cash receipts for the year 
are $182,358.14 and the disbursements $181,227.58, leaving a balance in the 
hands of the treasurer of $3,300.11. Among the receipts we can see the 
various sources of income, also a record of money borrowed, amounting to 
$56,500. Among the disbursements we can see the various demands for ex- 
penses, withdrawals, interest, etc., including the repayment of $40,500 of 
borrowed money. 

Assets and Liabilities. — Among the liabilities we have an analyzed 
statement of the various series showing the amount paid in on each, also the 
present status of each series, after apportioning profits. This shows to each 
stockholder in any series, according to shares held, the amount that he has 
paid in, the amount of profits credited, and the present book value of his 
shares. Among the assets are loans of $414,900, which include loans on 
both real estate and association stock; from this is deducted loans can- 
celed during the year, leaving the present balance in the loan account $381,- 
550. Real estate on hand was no doubt received by foreclosure of loans. 
Loans payable in the form of notes due the bank are $18,000, which amount 
is shown deducted from the assets in order not to affect the status of the 
liabilities to members. In order to simplify this statement it has been 
rearranged in the form of a balance sheet which should be studied in 
connection with the report. 



182 



PRACTICAL ACCOUNTING 

Information regarding the adjustments of profits is given immediately 
under the statement of assets and liabilities and is worthy of careful study. 
The profits apportioned for the present year, $19,986.66, is the balance after 
taking credit for earnings and for profits forfeited by withdrawing mem- 
bers, less expense, interest, etc. 

Analysis of Series. — The columnar exhibit of the various series is 
worthy of careful study, as it contains an analysis of stock outstanding at 
the beginning of the year plus the new series issued, minus withdrawals. It 
also shows the shares loaned upon and those remaining free. 

Balance Sheet, Rearranged. 

ASSETS. 

Real Estate Loans— -. $381,550.00 

Association Stock Loans — 

Real Estate 6,000.00 

Interest Accrued 375.00 

Cash on Hand 3,300.11 

Dues in Arrears $ 618.26 

Less dues prepaid 173.00 445.26 

$391,670.37 

LIABILITIES. 

Dues paid in •. $298,185.00 

Add Earnings Previous Year $55,498.71 

This year 19,986.66 75,485.37 

Value of all shares 373,670.37 

Notes payable 18,000.00 

$391,670.37 

Distribution of Profits. 

The most difficult part of building association accounting is the man- 
ner of distributing profits among the various series of stock. Of course, 
the members of each series have equal amounts per share to their credits, 
therefore the amount of profits apportioned to a series divided by the num- 
ber of shares therein will give the profits to be added to each share. In the 
report given the total payments by members is $298,185 and the profits 
amounting to $75,485.37 have been equitably distributed to the various 
series on the basis of payments giving an aggregate credit to members of 
$373,654.22, with $16.15 left over. How has the $75,485.37 been distrib- 
uted? It will be seen that the profits for the present year are $19,986.66. 
Now, if the profits for each year were credited to the various series and per- 
mitted to remain there, there would be only the profits for this year, $19,- 
986.66, to be apportioned and added thereto. This plan, however, is not 
always followed, as many associations carry the aggregate profits in one 
account and at the end of each year estimate for the purpose of making 

183 



C. P. A. QUESTIONS AND ANSWERS 

annual report or for settling with matured shares the portion of such ag- 
gregate belonging to each series. This consists of an annual apportionment 
of all accumulated profits, it being the plan followed by the secretary of 
the association under discussion. 

There are various ways of distributing profits but the "partnership" 
plan used by this association is considered the most equitable by Pennsyl- 
vania courts. Take a share of the last series, 33rd, on which $12 has been 
paid, give it a gaining power of 1. Now take a share in the 32nd series 
which has twice the value and has been invested twice as long, and give it 
a gaining power of 2x2=4. The 31st series has three times the status of 
the first and has a gaining power of 3x3=9. This plan of estimating is 
continued up to the oldest series, 23rd, which has paid in 11 times $12 or 
$132, and therefore has a gaining power of 11x11 or 121. Now multiply the 
gaining power of each series by the number of shares therein: 

33d series, 945 shares by 1 = 945 

Other series omitted. 

23d series, 342 shares by 121 = 41,382 



Total of all series 169,595^ 

To find the gain per share for the 33rd or unit series divide the total 
gains by the amount gotten by multiplying the various gaining powers with 
the shares in series, as $75,485.37 -=- 169,595^4 = 44.51 cents (nearly) per 
share. In this series the value of one share is the dues plus profits, $12 plus 
.4451 = $12.4451 ($12.45 shown in the report), giving a total value of all 
shares in the series of $12.4451 times 945, or $11,760.62. In series 32 the 
profits per share are found by using the gaining power of the series, as 
.4451 times 4 is $1.7804, giving a total value of all shares therein of 25.7804 
times 909y 2 or $23,446.91. This method is followed through the various 
series as shown in the accompanying exhibit headed "Apportionment of 
Profits." By adding together the dues paid in on a share or series and the 
profits apportioned to it the total or book value thereof is obtained. A 
further elucidation of the methods of dividing profits could be given but 
a careful study of the exhibits will enable one to grasp the ideas intended 
to be conveyed. 

Apportionment of Profits 











Ga 


ining 




Gain 




Total 


Series 


Shares 


Mos. 


Total P 


ower 


Total 


per Share 


Value 


Value 


23 


342 


X 


132 = 


$45154 


121 = 


41382 


53.85 






24 


289^ 


X 


120 = 


34740 


100 = 


28950 


4.51 






25 


294V 2 


X 


108 = 


31806 


81 = 


23854H 


36.05 






26 


257 


X 


96 = 


24672 


64 = 


16448 


28.48 


u 




27 


309 y 2 


X 


84 = 


25998 


49 = 


15165^ 


21.80 


o 


O 


28 


411 % 


X 


72 = 


29610 


36 = 


14805 


• 16.02 


u 


u 

Ih 


29 


422 


X 


60 = 


25320 


25 = 


10550 


11.12 


<u 


V 


30 


481^ 


X 


48 = 


23112 


16 = 


7706 


7.12 


u 
t/) 




31 


683 M 


X 


36 = 


24615 


9 = 


6153'M 


4.00 






32 


909^ 


X 


24 = 


21828 


4 = 


3638 


1.78 






33 


945 


X 


12 = 


11340 


1 = 


945 


.4451 








5345% 


$298195 




1695973,4 





184 



PRACTICAL ACCOUNTING 

EXECUTORS AND TRUSTEES. 

JAMES BROWN, Executor of the will of George Brown, is preparing 
to file his first and final account and has the following accounts on his 
books representing the completed transactions of his executorship : 

Dr. Cr. 

$10,000 P. R. R. 4y 2 s (appraisal) $10,500.00 

Income $ 450.00 

$10,000 Market St. Ry 4s (appraisal and sale) 10,000.00 10,500.00 

Income .' 200.00 

$5,000 B. & O. 3 l / 2 s (cost) 4,900.00 

Income 15.00 87.50 

Co-partnership of Brown & Davis (proceeds) 30,000.00 

Interest on bank balances 250.00 

Furniture (appraisal and sale) 800.00 1,000.00 

Horses, carriages, etc. (appraisal and sale) 1,600.00 1,500.00 

Decedent's debts, funeral expenses, etc 3,500.00 

Safe deposit box rent 10.00 

Executor's commissions at 3% on principal and 5% on 

income 1,656.63 

Counsel fee and court costs 528.50 

Estate of George Brown, deceased, (appraisal) 22,900.00 

James Brown, account distribution 3,000.00 

George Brown, Jr., account distribution 3,000.00 

John Brown, account distribution 3,000.00 

$42,510.13 
Cash 24,377.37 



$66,887.50 $66,887.50 



Outline the account in the form required by the Orphan's Court. The 
heirs are James Brown, George Brown, Jr., and John Brown, to whom, 
under the will, the executor is directed to distribute the entire estate in 
equal shares. 

Answer. 

The following forms are made in accordance with the requirements of 
the Pennsylvania Orphan's Court, known in some states as Surrogate 
Court and in others as Probate Court. This court has entire charge of the 
settlement and distribution of estates of deceased persons and of properties 
held in trust for minors and others incompetent to act for themselves. 
It will be noted that the question consists of a trial balance taken from an 
executor's books and from which the accountant is required to make adjust- 
ments. It might be advisable to arrange these accounts in regular ledger 
form, before making the adjusting entries, since by so doing the student 
can get a clearer insight into the analysis of each account. The executor's 
appraisement of the estate at the time of filing his inventory showed a 
valuation of $22,900.00, but it will be noted that this did not contain the 
decedent's interest of $30,000.00 in the partnership of Brown &. Davis 
which was afterward shown by the sale of said partnership interest. This 

185 



C. P. A. QUESTIONS AND ANSWERS 

and the profit on the sale of furniture and Market Street Railway bonds 
bring the valuation of the estate up to $53,600.00, on which the executor 
receives his commission of 3%. These details are set forth in the Account 
of Principal shown in the accompanying statement. The analysis of cash 
account shows that there was no cash on hand at the beginning, and that 
the investment in B. & O. bonds was made by the executor and therefore 
did not affect the principal account. The student will find it to his advant- 
age in solving the question to make a careful analysis of the cash receipts 
and payments. The amount of commission chargeable to principal and to 
income can be obtained after determining the corpus of the estate. 

Principal Account. 

In the Orphan's Court of the City and County of Philadelphia — First 
and Final Account of James Brown, Executor of the Will of George Brown. 

Dr. 

The accountant charges himself with principal received as follows: 

Inventory and Appraisement — 

$10,000 P. R. R. 4y 2 % bonds $10,500.00 

$10,000 Market Street Railway 4% bonds 10,000.00 

Furniture on hand \ . . . 800.00 

Horses, carriages, etc 1,600.00 

Total Appraisement $22,900.00 

Additional Debits- 
Proceeds of co-partnership sale 30,000.00 

Profit on sales as follows: 

Sale of furniture 200.00 

Sale of Market Street Railway 4s 500.00 

Total $53,600.00 

Cr. 

The accountant claims credit for disbursements of 

principal as follows : 

Decedent's debts, funeral expenses, etc $ 3,500.00 

Counsel fees and court costs 528.50 

Loss on sale of horses, carriages, etc 100.00 

Commission of 3% on $53,600.00 1,608.00 

Balance of principal for distribution 47,863.50 

Total Credit $53,600.00 

Advances to legatees: 

James Brown $3,000.00 

George Brown, Jr 3,000.00 

John Brown 3,000.00 $ 9,000.00 

Balance for further distribution 38,863.50 

$47,863.50 
186 



PRACTICAL ACCOUNTING 

Income Account. 
Dr. 
The accountant charges himself with income as follows : 

Interest on P. R. R. bonds $ 450.00 

Interest on Market Street Railway bonds 200.00 

Interest on B. & O. bonds (net) 72.50 

Interest on bank balances 250.00 



Total Income •$ 972.50 

Cr. 

The accountant claims credit for disbursement of income as 
follows : 

Rent safe deposit vault $ 10.00 

Commission of 5% on $972.50 48.63 

Balance of income for distribution 913.87 



Total Credit .' $ 972.50 



Recapitulation. 

Balance from Principal Account $47,863.50 

Balance from Income Account 913.87 



Total $48,777.37 



Composed as follows : 

Cash on hand $24,377.37 

$10,000 P. R. R. bonds 10,500.00 

$5,000 B. & O. bonds 4,900.00 



Amount on hand $39,777.37 

Advance to legatees 9,000.00 

Distribution to Legatees. 

Balance of Estate $48,777.37 

Share of Estate, l /z to each 16,259.12 

Apportioned as follows — 

Legatee Estate. Taken. Due. 

Share of Advances Balance 

James Brown $16,259.12 $3,000.00 $13,259.12 

George Brown, Jr 16,259.12 3,000.00 13,259.12 

Tohn Brown 16,259.13 3,000.00 13,259.13 



$48,777.37 $9,000.00 $39,777.37 



The above amounts, aggregating $39,777.37, remain subject to the 
adjudication of the court, and the executor will distribute the remaining 
portion as ordered. It will be noted that part of the assets are still in the 
form of bonds, which will have to be taken by one or more of the legatees 
instead of cash, otherwise it will be necessary to convert them into cash. 

187 



C. P. A. QUESTIONS AND ANSWERS 

Comments. 

The duties of an executor are to take charge of the estate of a deceased 
person and to carry out the requirements of the testator as set forth in his 
last will and testament. Since the law is very strict in the matter of 
handling trust estates every step must be made in accordance with state 
laws and with the approval of the Probate Court. There is nothing very 
difficult or unusual in the matter of bookkeeping for an executor, yet it 
is not in his power to follow his own dictates, since there are carefully 
defined rules set forth which he must follow. This has reference especially 
to the manner in which he should state his account to the court, though 
there is nothing to prevent him from keeping the book accounts accord- 
ing to his own ideas, so long as he is enabled from them to produce all 
of the information required by the court. The simplest form possible is 
usually the best, and the courts in any case will frown upon complicated 
statements which contain many parts or divisions. While any correct form 
of account keeping will suffice, yet it is advisable to make use of complete 
double entry in order that all debits and credits may be shown clearly. 
The books required are Journal, Cash Book, Check Book and Ledger. 
Other books may be used if circumstances seem to justify them, but in any 
case the accounts should contain full and complete details so that full in- 
formation regarding any point or account may be given without delay. If 
it is desired to keep principal and income separate a cash book should be 
provided with double columns on each side. The receipts and payments 
could be entered according to date and placed in their respective columns. 
In this way the balance of cash on hand belonging to the estate and to un- 
distributed income may easily be ascertained. 

It may be stated that the executor is a person named by the testator 
in his will, while an administrator is one appointed by the court to act in 
settling the estate in case the person died intestate, that is, without making 
a will. In case a will has been made but no executor appointed then the 
court makes the appointment and the person appointed is said to be an "ad- 
ministrator with will annexed." In Pennsylvania the preliminaries in the 
matter of trust estates are attended to by the Register of Wills, but in 
making a study of the subject the reader is advised to determine the prac- 
tice followed in his own state. The form of account presented to the court 
differs in the various states but is usually reduced to the two sides known 
as debits and credits, that is, the executor or accountant charges himself 
with all properties coming into his possession and with all moneys or 
properties leaving his possession. The balance represents the capital or 
balance of the estate. All income and expenditure other than that pertain- 
ing to the estate must be shown in a separate account of debits and credits 
as indicated in the accompanying Income Account. It is very important 
that principal and income be kept separate, though in many cases it is very 
hard to distinguish between them. The principal is known as the capital 
or corpus of the estate or trust and is the actual property in which the 
estate may be invested at the time. This is usually appraised by inde- 
pendent appraisers ; to this will be added profits on the sale of any property 
held as belonging to principal, and any other assets of the estate which 
subsequently come into the possession of the executor, 

188 



PRACTICAL ACCOUNTING 

Credits or deductions from principal include losses from the sale of 
property belonging to principal, funeral expenses, legal and state charges, 
liabilities of the testator, commissions to the executor, etc. Income consists 
of the proceeds of what the property produces ; the receipts of profits which 
come from its use in business accruing within a given time. In other words, 
the profits which would accrue in connection with an ordinary commercial 
business may, in most cases, be safely considered in connection with a trust. 
The charges against income usually consist of expenses of management, 
trustee's commission on income, ordinary taxes, water rates, repairs, in- 
surance, interest on incumbrances, general expenses, etc. In the apportion- 
ment of principal and income if no agreement can be reached as to their ap- 
plication, a decision of the court will have to be obtained. All transactions 
affecting real estate are required to be shown separately. 

Following is the form of account required by the Surrogate Court of 
New York State : 

SURROGATE COURT, 
County of New York, 

In the Matter of ACCOUNT 

The Judicial Settlement of the account of OF 

1 PROCEEDINGS. 

Executor of the Last Will and Testament of 



Deceased. 

2. To the Surrogate of the County of New York : 

I, , of the City, County and 

State of New York, do render the following account of my proceedings as 

executor of the last Will and Testament of 

late of the City of New York, deceased. 

3. On the day of ,19..., 

Letters Testamentary were issued to me. 

4. On the day of ,19..., 

I caused an Inventory of the personal estate, therein set forth amounts, by 
appraisement by the Appraisers duly appointed, to $ 

5. Schedule A, hereto annexed, contains a statement of all the prop- 
erty mentioned in said Inventory, sold or collected by me, with the prices 
realized, showing the increase on the appraised value, such increase amount- 
ing to $ 

6. Schedule B, hereto annexed, contains a statement of all amounts 
realized from personal property, sold or collected by me, not mentioned in 
the said Inventory, but for which I am legally accountable, amounting to 
$ 

7. Schedule C, hereto annexed, contains a statement of all amounts 
received by me for interest and dividends on securities, rents, and from 
other sources of income accruing subsequent to the death of the said 
deceased, amounting to $ 

No other assets than those in said Inventory, or herein set forth have 
come to my possession or knowledge and all the increase in the value of 

189 



C. P. A. QUESTIONS AND ANSWERS 

any asset of said deceased is allowed or charged in the said schedules above 
mentioned. 

8. Schedule D, hereto annexed, contains a statement of all the prop- 
erty mentioned in said Inventory, sold or collected by me, with the prices 
realized, showing the decrease on the appraised value, such decrease 
amounting to $ 

9. Schedule E, hereto annexed, contains a statement of all moneys 
paid by me for funeral charges and testamentary expenses, amounting to 

$ 

10. On or about the day of , 

in the year 19..., I caused a notice for claimants to present their claims 
against the said estate to me within the period fixed by law, and at a cer- 
tain place therein specified, to be published in two newspapers, according 
to law, for six months, pursuant to an order of the Surrogate of the County 
of New York to which order, a notice for claimants to present their claims 
against the said estate to my account. 

11. Schedule F, hereto annexed, contains a statement of all amounts 
paid by me in settlement of sundry debts and claims against the said estate, 
with the names of all creditors, and the time of such payment, amounting 
to$ 

12. No other debts or claims than those mentioned in Schedule F have 
come to my knowledge. 

13. Schedule G, hereto annexed, contains a statement of all moneys 
paid by me to , widow of the deceased. 

14. Schedule H, hereto annexed, contains a statement of all moneys 
paid by me for necessary expenses incurred in the management of said 
estate, amounting to $ 

15. Schedule J, hereto annexed, contains a statement of all items of per- 
sonal property mentioned in said inventory, remaining unsold or uncol- 
lected, and their appraised value, amounting to $ 

16. Schedule K, hereto annexed, contains the names of all persons who 
are in any way interested in the estate of the deceased, how interested, and 
their respective places of residence, to the best of my knowledge, informa- 
tion and belief. 

17. Schedule L, hereto annexed, contains a statement of all other facts 
affecting my administration of said estate, my rights, and those of others 
interested therein. 

The following is a summary of my account: 

Summary. 

18. I charge myself — 

With Amount of Inventory. .' $ 

With Amount of Increase, as per Schedule A 

With Amount realized from assets not mentioned in Inven- 
tory, as per Schedule B 

With amount received as Income, as per Schedule C 



Total Charges $ 

190 



PRACTICAL ACCOUNTING 

I credit myself — 

With Amount of Decrease, as per Schedule D $ 

With Amount paid for Funeral Expenses, as per Schedule E 
With Amount paid in settlement of sundry Debts and Claims, 

as per Schedule F 

With Amount paid to widow of deceased, as per Schedule G. 
With Amount paid for Necessary Expenses of Administra- 
tion, as per Schedule H 

With Amount of Sundry Items mentioned in Inventory, re- 
maining unsold or uncollected, as per Schedule J 

Total Credits $ 

Leaving a balance of $ 

19. Consisting of cash to be distributed to those entitled thereto, sub- 
ject to the deduction of the amount of my commissions and the expenses 
of this accounting. 

20. The said Schedules which are severally signed by me are part of 
this account. 

All of which is respectfully submitted, 



Dated, New York. 



Executor. 



MINING ACCOUNTS. 

Problem No. 1. 

THE FOLLOWING is the trial balance of the X. Y. 
Company, as of December 31, .1912: 

Dr. 

Cash $ 5,674 

Breaker and machinery 145,000 

Office building 5,000 

Blacksmith shop 4,000 

Inside construction 15,675 

Car and mine rail account 7,534 

Horses and mules 5,600 

Accounts receivable 35,112. 

Bills receivable 10,000 

Capital stock — Common 

Capital stock — Preferred 

Coal sales 

Accounts payable 

Surplus 

Depreciation on buildings & machinery. . 

Supplies 8,240. 

Pay-roll — outside 24,701. 

Pay-roll — inside 1 10,434, 

Salaries — superintendent, etc 6,000. 

Salaries — office clerks 4,500. 

Office expense .,.,,, 1 147 

191 



Z. Coal Mining 



Cr. 



50 

(XT 

00 

00 

00 

50^ 

00 

25 

00 



$ 50,000.00 

100,000.00 

257,890.00 

12,500.00 

17,709.35 

12,000.00' 



00 
50 
25' 
00" 

oo- 

35' 



C. P. A. QUESTIONS AND ANSWERS 

General expense 750.00 

Claims for injuries 4,000.00 

Insurance (expires July 1, 1913) 5,500.00. 

Repairs to buildings 4,075.00 

Repairs to construction 3,445.00 

Barn expense 1,500.00 

Selling expense 4,500.00 

Royalty account 30,500.00 

AVater 800.00 

Fuel 935.00 

Timber and props 5,475.00 

$450,099.35 $450,099.35 

The total output for the year was 132,300 tons. 

An examination of the books and accounts shows that the following 
charges had not been entered: Horses and mules, $2,200; car and mine 
rail account, $1,450; claims for injuries, $1,000. During the year the book- 
keeper, through error, charged to inside construction $3,415, instead of to 
inside pay roll. 

The coal is mined on lease that averages 20 cents per ton. The inven- 
tory is as follows: Timber and props, $1,500; powder, $555; oil, etc., $175. 
In preparing the above statements allowance for depreciation on build- 
ings and machinery may be considered at the rate of 5 per cent. 

Prepare income and profit and loss account and balance sheet, as of 
the above date, showing gross earnings and net earnings, also the average 
cost per ton. 

Income and Operating Account — Year Ended Dec. 31, 1912. 

Income. 
Sales of Coal $257,890.00 

Operating Expenses. 
Inside costs : 

Supplies $ 8,240.00 

Less inventory 730.00 

$ 7,510.00 

Pay roll, inside 113,849.25 

Salaries, say 60% of $6,000 3,600.00 

Repairs to construction 3,445.00 

Barn expenses 1,500.00 

Royalties paid $30,500.00 

Less prepayment 4,040.00 

— 26,460.00 

Water 800.00 

Fuel 935.00 

Timber and props 3,975.00 

Depreciation of construction, cars, 

rails 1,062.23 

Total inside costs $163,136.48 

192 



PRACTICAL ACCOUNTING 

Outside costs: 

Pay roll on outside $ ^'ni™ 

Salaries, say 40% of $6,000 2,400.00 

Repairs to buildings 4,0/3.00 

Depreciation of buddings iflWXM 

Total outside expenses $ 38,626. M) 

Total operating costs 201,762.98 

Add selling expenses 4,500.00 

Cost of coal sales $206,262.98 

Gross earnings of mine $ 5 1,62/ XL 

Profit and Loss Account — Year Ended Dec. 31, 1912. 

Credits. 

Gross earnings from operating account $ 51,627.02 

Debits. 

Clerks' salaries $4,500.00 

Office expenses 1,147.3b 

General expenses 750.00 

Claims for injuries • • • 5,000.00 

Insurance used 2,750.00 

Depreciation of office building 250.00 



Total general expenses $ 14,397.35 

Net earnings of company $ 37,229.67 

Cost Summary. 
(Per ton of coal.) 

Coal output for year 132,300 tons. 

Inside operating costs $163,136.48 $1,233 per ton 

Outside operating costs 38,626.50 .292 " " 



Total operating costs $201,762.98 $1,525 

Selling costs 4,500.00 .034 

General charges 14,397.35 .108 



Aggregate cost $220,660.33 $1,667 " " 

Net earnings, 28c per ton. 

Balance Sheet, Dec. 31, 1912. 

Assets. 

Cash on hand $ 5,674.50 

Bills receivable : 10,000.00 

Accounts receivable 35,1 12.25 

Insurance unexpired 2,750.00 

193 



C. P. A. QUESTIONS AND ANSWERS 

Royalties prepaid 4,040.00 

Powder on hand 555.00 

Oil on hand ••• 175.00 

Inside construction 12,260.00 

Car and mine rail account 8,984.50 

Horses and mules 7,800.00 

Timber and props 1,500.00 

Blacksmith shop 4,000.00 

Breaker and machinery 145,000.00 

Office building 5,000.00 

Total assets $242,851.25 

Liabilities. 

Accounts payable $ 17,150.00 

Reserve for depreciation 20,762.23 

Surplus, Dec. 31, 1911 17,709.35 

Net earnings for year 37,229.67 

Capital Stock— Common 50,000.00 

Capital stock— Preferred 100,000.00 



$242,851.25 

Comments. 

Mine accounting may be likened unto that of a manufacturer; the 
mine operations in digging, hoisting and preparing the coal for shipment 
are analogous to the process of manufacturing articles for sale to the 
trade. Once produced and ready for shipment, the business of sale and 
delivery in each case resolves itself into a matter of salesmanship, as in any 
trading concern. The mining company either owns the mines or leases 
them for a term of years on a royalty basis of so much per ton of coal 
mined. The company which operates its own mines may open an account 
for each mine, as in the case of branch office accounting, to which shall 
be charged all outlay for development, necessary construction improve- 
ments, operating charges, expenses, etc. Income from sales, less all operat- 
ing and general charges shows the net earnings of the mine for any fiscal 
period. In case the mine is leased to another company, the bookkeeping 
would be reduced to the entry of royalties received and of depreciations 
and other expenses incurred. Since the head office is usually located in 
some city, it will be seen that operations of the mine must be kept track 
of at the colliery and then sent to the head office in the form of detailed 
reports. From these reports entries are made in the proper accounts. 
The reports are carefully prepared by the superintendent, or by his clerks, 
and contain full details pertaining to operations, coal mined, broken, stocked 
and shipped, labor charges, pay roll, accidents, etc. The miner is paid 
either by the ton or carload of coal mined, but deductions are made for 
helpers (if any), supplies furnished (as powder and tools), rent of house, 
store charges, and probably for benefit or relief fund. The balance due 
is paid by the manager in cash or by. check sent from the home office. It 
will be seen that care must be exercised in keeping track of supplies, stores, 

194 



PRACTICAL ACCOUNTING 

etc., charged to each miner's account, and that this must be carefully- 
reported to the home office. Sales are usually made at the head office, 
though shipments are sent direct from the mine, according to directions 
supplied. 

From this brief explanation it will be seen that very little accounting 
is done at the mines and that entries in the home office books are made 
from the various mine reports sent in by the manager or superintendent. 
From the information thus received detailed monthly reports of operations, 
labor costs, output, etc., are carefully compiled. Monthly statements of 
income and operations are usually prepared also for the benefit of the 
management. 

The question under review presents another feature of mine opera- 
tions, for in this case the operating company leases the mine on a royalty 
basis, according to the output of coal. The accounts will differ slightly 
from those of a company owning the mine, but in other respects records 
of operations are kept in a similar manner. The royalty payments are 
considered part of the cost of operation in much the same respect that the 
depreciation is part of the operating cost for the company owning the 
mine. In consequence, the mooted question of mine depreciation need not 
be discussed in this article ; however, the various properties belonging to 
this operating company must necessarily be considered as having depre- 
ciated. It will be noted that the depreciation is mentioned in connection 
only with building and machinery, but here it is considered on all properties 
shown in the problem. The division of depreciation among the inside 
costs, outside costs, and profit and loss account are simply according to 
the writer's ideas, though it is true that they are not called for in the ques- 
tion. The forms of statements used are not given as model forms for 
mining corporations, but simply as one of many plans that might be shown. 
It is true also that some of the items chargeable to the three divisions 
might be differently arranged, but this, in the end, would not affect the 
genuineness of the solution. 

Mines are usually leased for a definite number of years, therefore all 
costs of construction and buildings should be written off over the life of 
the lease. Since 5 per cent depreciation is mentioned in the question, it 
is assumed, for working purposes, that the lease had a currency of twenty 
years. The manner of conducting operations is similar ,to those described 
above and, of course, the various reports to the home office are pre- 
requisites. Space will not permit of giving further attention to the 
forms used, but anyone familiar with mine operations and accounting 
forms could without much difficulty design suitable blanks for this pur- 
pose. It might be said that the accounts used in this question are very few 
compared with those used by some of the larger mining companies. 
Where a carefully compared system prevails numerous accounts are kept 
for the various classes of charges, expenses, day and contract labor, sup- 
plies, income, and administrative expenses. Not being familiar with the 
mining laws of New York State, where this problem was given, we are 
refraining from making comments on statutory requirements. It might be 
noted in connection with the statement presented herewith that inside costs 
refer to expenses within the mine, while outside costs refer to charges 

195 



C. P. A. QUESTIONS AND ANSWERS 

incurred after the coal is brought to the surface. Insurance account is 
assumed to have been for one year and that one-half of it is unexpired. 
This is merely an assumption, and it might be even better to consider x /z 
unused. Royalties to the extent of $4,040 have been prepaid, as will be 
seen by a comparison of the royalty account with the tons of the output. 
Interesting statistical features are shown in the cost summary on the basis 
of one ton of coal. We must presume that the entire output of coal has 
been disposed of, since no mention of coal in stock has been made. Claims 
for injuries might have been considered as an operating charge; however, 
it is here considered otherwise; an insurance might have been so consid- 
ered also, at least in part. The adjusting entries called for should be made 
before the statements are completed. 

Adjusting Entries. 

1. Pay roll inside $3,415.00 

To Construction $3,415.00 

2. Car and mine rail account 1 ,450.00 

To Accounts payable 1,450.00 

3. Horses and mules 2,200.00 

To Accounts payable 2,200.00 

4. Claims for injuries 1,000.00 

To Accounts payable 1,000.00 



Problem No. 2. 



THE following question, which appeared in a Pennsylvania examina- 
tion, is selected as one which was no doubt designed by the examiners to 
test the thinking powers of the candidate, rather than one to test his 
ability as a mathematician. The few amounts given are to be used as 
a basis in designing the accounts called for, but the answer is purposely 
presented in a more exhaustive plan than the question really requires. 

Question. 

A coal mining company, "A," desires to acquire another smaller mining 
corporation, "B," the capital stock of which is $100,000. It purchases the 
entire capital stock for $300,000, and in order to obtain funds, borrows that 
amount, giving five notes, due in one, two, three, four and five years, for 
$60,000 each, and bearing interest at the rate of 6 per cent per annum. 

Company "B" owns no real estate, but operates under a lease which 
will expire fifteen years after the date of the above-mentioned purchase. 
At the termination of the lease all permanent improvements, buildings, 
etc., other than moveable equipment, become the property of the lessor. 

At the time of the purchase it is found that the current or liquid assets 
of company "B," other than the investment in buildings and equipment, 
amount to $50,000. It is also necessary to expend $10,000 per annum for 
the first two years in the erection of permanent buildings, in addition to 
the ordinary charges for maintenance. 

196 



PRACTICAL ACCOUNTING 

It is required that the stock of company "B" shall be worth par at the 
termination of the lease. It is further desired that interest on the notes 
given by "A" should be extinguished by the income received from "B," 
and also that the investment of "A," except as represented by the par value 
of the stock of company "B," should be extinguished before the termina- 
tion of the lease. 

Both companies are to be operated entirely independently of each 
other, and the only connection is through that of stock ownership. 

The reply to this question should be in the nature of a clear and con- 
cise plan, stating how these transactions should be treated on the books 
of both companies. Include with this a set of ledger accounts, illustrating 
the workings of the plan you would recommend. 

Answer. 

Before submitting an answer, the problem should be studied from all 
viewpoints in order that its meaning and requirements may be clearly con- 
ceived, and it is strongly recommended that anyone interested, work it up 
before consulting this answer. A summary of the main points of the ques- 
tion may be made if desired, about as follows : 

Two companies, fully established, operating independently. 
"A" company paid $300,000 for the shares of "B" company of $100,000. 
This is at a premium of $200,000, which amount is to be spread over 
fifteen years, $13,333.33 each year. 

"A" borrows $300,000 on notes to pay for "B" stock. 
Notes to be paid within five years, out of own funds. 
Net income of "B" goes to '"A" in dividends. 

Amount paid by "A" for premium on stock to be charged against divi- 
dends received of "B." 

Interest on notes charged to same account. 

"B" company stock must be worth par in 15 years. 

It must have $100,000 in cash or its equivalent at that time. 

$300,000 paid by "A" goes to stockholders of "B," who relinquish all 
stock. 

In 15 years "B" either re-leases, secures other property, or dissolves. 
"B" has $50,000 current assets, and $50,000 evidently charged to im- 
provements, to offset capital of $100,000. 

During the next two years spends $20,000 on improvements. 

Now has $70,000 of permanent improvements to wipe out over re- 
maining years. 

"B" must make enough to pay expenses, extinguish improvements of 
$70,000, and pay dividends to "A." 

"A" must get at least enough to extinguish premium of $200,000 on 
stock, and pay interest on notes, $54,000=$254,000. 

Allow, say, $10,000 per year extra for profits. 

Show accounts affected on books of "A" and "B." 

197 



C. P. A. QUESTIONS AND ANSWERS 
Income from Company B. 



Year 


Interest on 
Notes 


Extinguishment 
of Premium 


For 10% 

Net Dividend 


Total Income 


1908 
1909 
1910 
1911 
1912 
1913 
1914-22 


$18,000.00 

14,400.00 

10,800.00 

7,200.00 

3,600.00 


$13,333.33 
13,333.33 
13,333.34 
13,333.33 
13,333.33 
13,333 . 34 

120,000.00 


$10,000.00 
10,000.00 
10,000.00 
10,000.00 
10,000 . 00 
10,000.00 
90,000.00 


$41,333.33 
37,733.33 
34,133.34 
30,533.33 
26,933.33 
23,333.34 

210,000.00 


Total 


$54,000.00 


$200,000.00 


$150,000.00 


$404,000.00 













Company "A's" Records. 

We are not given any details as to the accounts and capital stock of 
"A," and are therefore, interested only in the operations and income from 
"B" and investment therein. All else is excluded from consideration. For the 
purpose of completing exhibits, we shall provide for an income or dividend 
from "B" sufficient to net a dividend of 10 per cent after allowing for loan 
interest and a portion of extinguishment of investment premium. Loan 
payments, of course, are made during the first five years, but not out of 
income, and therefore not necessary to the exhibit. 

It will be seen from this exhibit that "A's" investment in "B" stock is 
now reduced to par, $100,000.00, and that the investment has netted a 10 
per cent dividend during the 15 years of lease operations. The total divi- 
dends paid by "B" amount to $404,000.00. The lease has expired and must 
either be renewed or some other use found for this capital — in case the 
company does not go into liquidation. 

Company "B's" Records. 

When "B" company's stock was purchased by "A" company, "B" had 
current assets amounting to $50,000.00, and since the capital stock is $100, 
000.00 some other asset or charge must be included to offset the debit. 
Then we have the following statement : 



B Company Balance Sheet on Amalgamation. 

Current Assets $ 50,000.00 Capital Stock 

Buildings and Improvements. 50,000.00 



.$100,000.00 



$100,000 00 



$100.000.00 

Other items may be included in the books at this time, if desired, but 
consideration of them has nothing to do with the principles involved or 
with the requirements of the examining board. 

In addition to the buildings shown above, "B" company pays out 
$20,000 for improvements, making in all $70,000 which must be written off 
during the fifteen years. Then according to the dividends allowed on stock, 
it is necessary to pay operating expenses and charge off a portion of the 



19S 



PRACTICAL ACCOUNTING 



improvements each year before paying the dividend. It will be seen from 
this that during the fifteen years under consideration "B" company must 
earn enough to pay running expenses and write of $70,000.00 of improve- 
ments in addition to the net profit of $404,000.00 paid over to "A" company 
in the form of dividends. Assuming the royalties and expenses to have 
been $10,000.00 per annum, we have the following : 



Company B Account. 

Earnings and Expenses for 15 Years. 

For dividends to Company "A" $404,000.00 

For permanent improvements 20,000.00 

For extinguishment fund 50,000.00 

For operating expenses 1 50,000.00 

Total earnings : $624,000.00 

Deduct 

Operating expenses $150,000.00 

Permanent improvements 20,000.00 

Extinguishment fund to increase capital to par 50,000.00 

Total outlay for operations 220,000.00 

Balance, net profit, dividends paid to "A" Company. $404,000.00 

The above exhibit shows all the income and 'expenses for the entire 
period under review, but it would be just as satisfactory to have omitted 
the consideration of any items outside of those necessary for profits to 
"A" and for replacement of $70,000.00 expended on improvements. Writing 
off permanent improvements, the $50,000.00 standing to buildings, etc., at 
the time of sale must be written off during the fifteen years, also the $10,- 
000.00 expended during each of the first two years. How shall it be done? 
The following three plans are suggested : 

(1) Write off by a charge against profit and loss an amount each year 
in proportion to the number of years over which it shall run. For ex- 
ample, at the end of the first year $60,000.00 will be the amount charged to 
buildings, etc. ; one-fifteenth of this, or $4,000.00 deducted, leaves a balance 
of $56,000.00. At the end of the second year this will be increased to $66,- 
000.00, which amount shall then be spread over the remaining fourteen 
years, $4,714.29. 

(2) Charge off one-fifteenth of the entire $70,000.00 each year, 
$4,666.67. This amount may be credited either to reserve or extinguishment 
of improvements, or to the improvements account itself. 

(3) Depreciate the amount standing each year in proportion to the 
number of years, as one-fifteenth of $50,000.00, etc., as follows : 

199 



C. P. A. QUESTIONS AND ANSWERS 

First year, total $50,000.00 

Less 1/15 depreciation 3,333.33 

$46,666.67 
Add expenditure 10,000.00 

Second year, balance $56,666.67 

Less 1/14 depreciation 4,047.62 

$52,619.05 
Add expenditure 10,000.00 

Third year, balance $62,619.05 

Less 1/13 for depreciation 4,816.85 

Balance $57,802.20 

This is the plan followed in setting up the accounts, shown in the ac- 
companying exhibits. 

LEDGER, COMPANY A— (Using only accounts affected). 

Investment Company B Stock. 

Cash at commencement $300,000.00 Written off to profit and loss 

during IS years \ $200,000.00 

Balance 100,000.00 

$300,000.00 $300,000.00 

Balance $100,000.00 

Notes Payable. 

Year 1 Cash.. $ 60,000.00 Cash, at time of issue $300,000.00 

" 2 " 60,000.00 

" 3 " 60,000.00 

" 4 " 60,000.00 

" 5 " 60,000.00 

$300,000.00 y300.000.0O 

Income from Investment. 
Profit and loss $404,000.00 Dividends $404.000.00 

Interest on Notes. 
Cash for five years $ 54,000.00 Profit and loss $ 54,00 0.00 

Profit and Loss Account. 

For 15 years: — 

Interest $54,000.00 Income from Investments. .. .$404,000.00 

Extinguishment 200,000.00 

Net profits in dividends 150,000.00 

$404,000.00 $404,000.00 

Dividend Account. 

Cash paid during period $150,000.00 Profit and loss $150.000.00 

200 



PRACTICAL ACCOUNTING 



Cash Account. 



Sale of notes S 300,000.00 Investment B stock $ 300,000.00 

Dividends from Co. B 404,000.00 Interest on notes 54,000.00 

Other sources, and used for Redemption of notes 300,000.00 

note payments 300,000.00 Dividends paid 150,000.00 

Balance 200,000.00 



$1,004,000.00 $1,004,000.00 



Balance $ 200,000.00 

Note. — This cash balance is the fund reserved for extinguishment of premium 
on investment. We may change the above figures for receipts from other sources 
if desired, from $300,000.00 to $100,000.00, and use this extinguishment fund to apply 
on payment of notes. 



LEDGER, COMPANY B— (Using only accounts affected). 

Capital Stock. 

Paid up $100,000.00 

Buildings and Improvements. 

Balance at beginning $ 50,000.00 Profit and loss as per detail.. $ 70,000.00 

Cash since beginning 20,000.00 



$ 70.000.00 $ 70.000.00 



Current Assets (Cash, etc.) 

Balance at beginning $50,000.00 Operating expenses $150,000.00 

Earnings 624,000.00 Dividends 404,000.00 

Improvements 20,000.00 

Balance 100,000.00 



$674,000.00 $674,000.00 



Balance $100,000.00 



Profit and Loss. 

Operating expenses . $1 50,000.00 Earnings, per detail $624,000.00 

Extinguishments of bldgs., etc. 70,000.00 
Dividends 404,000.00 



$624,000.00 $624,000.00 



Dividend Account. 
Cash paid $404.000.00 Profit and loss $404,000.00 

Balance Sheet, Company B. 
Current assets $100,000.00 Capital stock $100,000.00 

201 



C. P. A. QUESTIONS AND ANSWERS 

FIRE INSURANCE ACCOUNTING. 

Problem No. 1. 

THE FOLLOWING question is taken from a Pennsylvania Examina- 
tion and is used as a basis for study in the accounts of a fire insurance 
company. From the trial balance, — 

(a) Prepare a balance sheet at December 31 and the relative income 
account for the year ending that date. 

(b) Describe what procedure you would adopt in verifying the assets 
and liabilities. Make any criticisms in respect of reserves apparently 
omitted. 

Trial Balance, December 31. 

Stocks and bonds (book value) $3,000,000.00 

Mortgage loans 1,000,000.00 

Interest receivable on mortgage loans 1,000.00 

Real estate 500,000.00 

Cash at banks and on hand 300,000.00 

Uncollected premiums 500,000.00 

Capital stock $ 500,000.00 

Unpaid dividends 100,000.00 

Surplus account, January 1 2,000,000.00 

Gross premiums 3,000.000.00 

Return premiums 5,500.00 v 

Income from stocks and bonds 25,000.00 

Interest on mortgage loans 10,000.00 

Rents received 200.00 

Losses 210,000.00 

Reinsurance premiums 10,000.00 

Commissions 5,000.00 

Taxes ! 4,000.00 

Salaries , 40,000.00 

Uncollectable premiums 3,000.00 

Rebates 200.00 

Real estate expenses 5,000.00 

Real estate losses 3,000.00 

Postage 500.00 

Legal expenses 500.00 

Maps 15,000.00 

Underwriters' boards and tariff associations. . . . 30,000.00 

Inspections and surveys 2,000.00 

General expenses 500.00 

$5,635,200.00 $5,635,200.00 

Comments. 

The business of a fire insurance company is to sell protection against 

loss by fire, in return for which it receives compensation in the form of 

premiums. The amount of income received from premiums depends upon 

the volume of business done (insurance placed), and also upon the length 



PRACTICAL ACCOUNTING 

of time for which the risk has been undertaken, as for one month, one 
year, two or five years, or perpetual. The "premium" is the compensation 
paid by the insured to the insurer for which he is insured against loss by- 
fire, and the "policy" is the contract or agreement entered into between the 
contracting parties. The protection sold by the company has to be deliv- 
ered only in case of fire, and then only to the extent agreed upon. 

Fire insurance companies have all risks carefully classified, and the rate 
of premium charged depends largely upon the classifications. These have 
reference to location, condition of surrounding buildings or proximity to 
hazardous risks, construction and use of building, furnishings and goods 
handled therein, public and private fire protection, etc. The companies 
have each city carefully surveyed and mapped so that every location and 
risk is not only clearly set forth in its maps but accurately surveyed, in- 
spected and described from top to bottom, including foundation, roof, 
surroundings and all moral hazards. 

Insurance companies are organized and incorporated very much as 
other business corporations (under special insurance laws) and their 
official business is not at all dissimilar except in the matter of making 
reports. The laws of Pennsylvania (which no doubt are similar to those 
of other states) require at least ten persons for incorporation with an 
authorized capital of at least $500,000. At least 50% of the capital stock 
must be subscribed and at least 10% paid in thereon ; the remainder thereof 
must be paid up within six months. Subscribers to the original capital of 
a company usually contribute an extra amount for the purpose of creating 
a surplus. This insures the new company against insolvency and enables 
it to meet any heavy losses that may occur during its infancy. Each stock- 
holder, for instance, will pay in $150 or $200 for each $100 share of stock 
taken. After the company is well established any remaining stock is 
usually sold at an advance over the original price. 

An exhaustive annual report and statement is required to be sent to 
the Insurance Commissioner of every state in which the company does 
business. The reports must comply with the laws of said states, and 
where required, a deposit of securities must be made. This report inquires 
into every detail of the company's business and financial condition and 
furnishes a most exhaustive exhibit of its affairs. The reports for fire, life 
and other insurance companies are an interesting study and are recom- 
mended to students of accountancy. In reporting assets the company is 
required to deduct those which are not usually available for settlement of 
fire losses, as furniture, supplies, printed matter, etc., the company's own 
stock owned or loans made thereon, bills receivable past due, agents' 
balances after a brief time has elapsed, loans on personal security, book 
values of ledger assets over market value, etc. The insurance department 
is always exacting, and any assets not capable of realizing full value on 
forced sale are either omitted or reduced to a safe working basis. All lia- 
bilities, no matter how small, of a real or contingent nature, must be 
accounted for, and all fire losses unpaid, whether in dispute or not, must be 
included at face value of risks. 

203 



C. P. A. QUESTIONS AND ANSWERS 

Premiums and Reserves. 
The insurance premium received by the company for fire risks is gen- 
erally paid in advance instead of at stated periods, as in a life insurance 
company. This premium covers the full term of the policy, whether it be 
for one, three or five years, or perpetual, and therefore cannot all be con- 
sidered as earnings for the current year. That portion which has already 
been earned, according to months in force, may be considered as earned 
income for the period, while the remainder must be held as a reserve for 
possible fire losses during the years which the policy has yet to run. If the 
policy is for one year only and expires at the end thereof, then the pre- 
mium received thereon would be considered as entirely earned and included 
as revenue for the year ; but if the policy (beginning on say June 30th of 
the current year) continues over a term of three years, then one-sixth would 
belong to earnings of the first year and five-sixths carried as unearned 
reserve to meet future losses. The unexpired premium in each case is 
considered in proportion to the currency of the policy either in months or 
days. The fire losses which occur each ye'ar are chargeable against the 
earnings for that year, and the balance, of course, represents the net earn- 
ings of the company as available for distribution in the form of dividends. 
The reserve requirements are governed by the laws of each state and neces- 
sarily vary to some extent. It must be strictly maintained, however, or the 
Insurance Commissioner will promptly proceed to wind up the affairs of 
the company. The Pennsylvania laws require that the reserve must be 
maintained under all circumstances. They further state that the Insurance 
Commissioner "shall calculate the re-insurance reserve for unexpired fire 
risks, by taking fifty per centum of the premiums on all unexpired risks 
that have less than one year to run, and a pro rata on all premiums 
received on risks that have more than one year to run." In marine insur- 
ance, all (100%) of the unearned premiums must be reserved against pos- 
sible future losses. Reserves for perpetual policies are usually about 90% 
of the premiums received. It may be said that reserves do not always appear 
on the books as such, but are carefully set forth only in the official report 
to the State, a copy of which is usually kept by the company. Unearned 
premiums are shown in the premium account on the company's ledger and 
required to be reapportioned at the end of each year. Non-ledger assets 
are, of course, deducted in the report, though they may continue to be 
shown on the company's ledger. From this it will be noted that the books 
and the report to the Insurance Commissioner are not always entirely in 
harmony with each other. Outstanding insurance policies do not form a 
part of the ledger accounts, but simply a record in the proper books. 

Points on the Problem. 

The question lacks many details that would ordinarily be -required 
to enable one to prepare a satisfactory statement, but this no doubt was 
the intention of the examiners, since the candidate is required to display 
his knowledge of fire insurance accounting without assistance. The book 
value of stocks and bonds is given, but we are not told the par or market 
value thereof. Real estate is evidently to be taken at the book value, 
though the loss of $3,000 thereon may be considered as depreciation, and 

204 



PRACTICAL ACCOUNTING 

uncollected premiums may be considered as good, since $3,000 has already- 
been written off. We are not able to determine whether or not there is 
accrued interest on mortgages and bonds, other than the $1,000 shown, and 
must therefore take the income from these sources as complete to date. 
Fire losses for the year amount to $210,000. Return premiums and re- 
insurance premiums must be deducted from gross premiums. Gross pre- 
miums include premiums received during the year and all reserves carried 
over from previous years. It is obvious that only part of this amount 
can be apportioned as earnings for the current year, while the required 
reserves must be pro-rated to unexpired risks. This is the crucial test in 
the problem, and certain conclusions must necessarily be assumed. If the 
aggregate outstanding insurance was given and classified as to time to 
run, the pro-rating of reserve premiums would be an easy matter, but since 
the examiners have purposely omitted this information, we will suppose 
that $750,000 has been earned during the year and that $2,250,000 is the 
unearned reserve. From this year's earnings are deducted the fire losses, 
re-insurance and return premiums. The surplus account is very large when 
compared with the capital, and no doubt part of it was contributed by the 
original subscribers. The capital and surplus funds of insurance companies 
must be invested only in first-class mortgages and gilt-edged securities, on 
which there is required a given margin of safety. The main books used 
by fire insurance companies are ledger and cash book, the latter with spe- 
cial columns to suit the income and disbursements. There are numerous 
records kept on cards and in books of various kinds,, also reports from 
agencies, from whence the majority of the business comes. 

INCOME ACCOUNT, December 31. 

EXPENSES. INCOME. 

Commissions $ 5,000.00 Premiums earned $734,500.00 

Taxes 4,000.00 Income from stocks and bonds 25,000.00 

Salaries 40,000.00 Interest on mortgage loans . . . 10,000.00 

Uncollected premiums 3,000.00 Rents received 20000 

Rebates 200.00 

Real estate expenses 5,000,00 

Real estate loans : 3,000.00 

Postage 500.00 

Legal expenses 500.00 

Maps 15,000.00 

Boards and associations 30,000.00 

Inspections and surveys 2,000.00 

General expenses 500.00 

Total expenses $108,700.00 

Balance down, excess of in- 
come over expenses 661,000.00 

$769,700.00 $769,700.00 

Fire losses paid during year. .$210,000.00 Balance, down $661,000.00 

Net earnings for year 451,000.00 

$661,000.00 $661,000.00 

Note. — The Income and Disbursements statement submitted to the insurance 
commissioner is always carefully analyzed and differently arranged from the above 
on regularly printed forms. The -same is true of the Assets and Liabilities. 



205 



C. P. A. QUESTIONS AND ANSWERS 



Balance Sheet, December 31. 



ASSETS. 

Stocks and bonds $3,000,000.00 

Mortgage loans 1,000,000.00 

Real estate 500,000.00 

Cash 300,000.00 

Uncollected premiums 500,000.00 

Interest accrued on mort- 
gage loans 1,000.00 



$5,301,000.00 



LIABILITIES. 

Unpaid dividends $ 100,000.00 

Premiums unearned, not re- 
serve 2,250,000.00 



Total liabilities $2,350,000.00 

Capital stock 500,000.00 

Surplus Jan. 1 2,000,000.00 

Net earnings for year 451,000.00 



$5,301,000.00 



PREMIUM ACCOUNT. 

Gross premiums received $3,000,000.00 

Less reserve for re-insurance, estimated 2,250,000.00 



Balance available as income for year $ 750,000.00 

Deduct: — 

Return premiums $ 5,500.00 

Re-insurance premiums 10,000.00 15,500.00 



Balance, premiums earned 



$ 734,500.00 



Problem No. 2. 

THE Ganver Garment Company, who were burned out in the night 
of September 16th, filed with the insurance companies a claim for $95,436.70, 
which you are called in to verify or disprove. 

You find the following Balance Sheet as of Aug. 1st, 1912: 

ASSETS. LIABILITIES. 

Cash $ 9,224.67 Accounts payable $59,611.46 

Accounts receivable 88,669.43 Bills payable 42,183.24 

Bills receivable 2,473.62 Capital stock 50,000.00 

Merchandise inventory 42,618.97 Surplus 14,203.16 

Machinery 20,419.04 

Furniture and fixtures 2,000.00 

Prepaid taxes and insurance.. 592.13 



Total $165,997.86 



Total $165,997.86 



At the close of business September 16th, their ledger showed the fol 
lowing balances : 

Dr. 

Capital Stock 

Surplus 

Cash - $ 5,418.22 

Accounts receivable 118,871.14 

Bills receivable 6,217.24 

Accounts payable 

Bills payable 

Machinery 21,619.34 

.Furniture and fixtures 2,147.30 

Inventory, August 1, 1912 42,618.97 

Dividends 6,000.00 

Sales 

Merchandise purchases 103,430.22 



Cr. 
$ 50,000.00 
14,203.16 



72,898.66 
63,114.02 



162,917.31 



206 



PRACTICAL ACCOUNTING 

Labor 37,619.14 

Power, light and heat 3,716.47 

Factory expense • 7,119.11 

Office salaries 2,250.00 

Office expenses 319.54. 

Selling expenses 4,716.92 

Insurance 318.16 

Taxes 751.38 

Totals ." $363,133.15 $363,133.15 

The Company's Gross Profits on Sales has been very uniform, aver- 
aging 20 per cent ever since the business was started. Ten per cent for 
depreciation has been written off every year from machinery and furniture 
and fixtures. 

Insurance policies covering merchandise, machinery and furniture and 
fixtures aggregate $100,000, and all contain the 80% co-insurance clause. 

The merchandise and furniture and fixtures were a total loss. The 
salvage in machinery is valued at $2,500, at which value the insured 
decided to retain it. 

Prepare statement of claims against the insurance companies: 

Answers and Comments. 

The question asks only for a statement of claim against the insurance 
companies, which necessitates the determining of values at the time of the 
fire. To do this requires an analysis of the figures presented and the estab- 
lishment of an equitable valuation of the properties destroyed. In a man- 
ufacturing business, such as the one under consideration, it is apparent 
that the direct manufacturing charges form a part of the cost of goods 
destroyed and should be included. This is particularly the case with goods 
in the process of manufacture. The direct costs shown in the question, 
however, are applicable to goods that have been completed and sold, as 
well as to those still in process; therefore we must consider them in the 
aggregate instead of separately. In the manufacturing costs we have in- 
cluded labor, power, light and heat and factory expenses, as will be seen 
by an inspection of the accompanying statement. It would be proper, no 
doubt, to add a portion of the insurance and taxes also if we knew what 
portion was applicable to the month and a half of operations. Deprecia- 
tion of machinery for one and one-half months would be a proper charge 
if considered. It is included, however, in the inventory valuation itself, 
since it seems inadvisable to write off further depreciation. The fact that 
10% has been written off annually does not mean that the book figures 
present a true valuation. It may even be worth considerably in excess 
of the amount shown. The inventory of furniture and fixtures is admitted 
at book value, though it would be wise and prudent to write it down. In 
an extraordinary case such as this it would seem advisable to include in 
the cost of manufactured goods a portion of the general and administrative 
expenses. No doubt a portion at least would be directly applicable thereto 
in the same manner as labor and direct factory expenses. The matter 

207 



C. P. A. QUESTIONS AND ANSWERS 

of doubt in the consideration of a case like this suggests to the accountant 
the desirability of a conservative decision in making up the claim for good9 
destroyed. It might even be claimed by the manufacturer that the goods 
were worth more than the bare manufacturing cost on the assumption that 
if purchased elsewhere a higher price would have to be paid. It is evident 
that the company's claim for $95,436.70 contains either estimated profits 
or considerably more loading than we have admitted, since it seems impos- 
sible to reconcile it with the information submitted. No doubt the account- 
ant after investigation determined that the gross profit for the past years 
averaged 20 per cent, while the company's officials were estimating differ- 
ently. The gross profit on sales would have to be estimated at about 
35% to result in a claim such as the one presented by the company. We take 
the 20% gross profit on the cost of sales and not on the selling price, as is 
so frequently done in trading concerns. Where costs are well established, 
as in a manufacturing business, percentages should be based on the cost 
price instead of on the sales. In arranging the gross profit, however, con- 
siderable care should be exercised to see that the elements of cost are 
maintained uniformly from year to year. 

The adjusters of fire losses are usually shrewd, capable men, and while 
they are disposed to guard the interests of the insurance companies, they 
are also desirous of making equitable adjustments of damage claims. In- 
surance companies desire to continue doing business, and it is apparent 
that if fair dealing in settling claims of patrons is not maintained, they will 
look elsewhere for protection. And yet they can not be expected to accept 
under all conditions the claims presented for fire losses. The adjusters 
are therefore asked to determine or estimate the amount of loss. The 
insured, on the other hand, is not bound to accept the damage claim decided 
upon by the adjuster, in which case some other expediency must be resorted 
to. Possibly accountants and appraisers may have to be employed or some 
equitable plan of settlement decided upon. Sometimes the courts are re- 
sorted to for decisions. Insurance companies usually reserve the right to 
replace or rebuild damaged property in case reasonable cash settlements 
cannot be made. The companies are interested in preventing loss by fire, 
and therefore maintain in large cities what are known as "fire patrol," 
"underwriters' patrol," "salvage corps," etc. It is their duty to visit the 
scene of the fire and to save as much property as possible. The expense 
of maintenance is met by the different companies, and their equipment is 
in every way adapted to salvage duty. Salvage has reference to the goods 
saved from loss by fire ; in this example it amounts to $2,500. It is pre- 
sumed, of course, that the books and records have all been secured. 

The aggregate insurance carried is $100,000, which is considerably 
above the value of property owned at the time of the fire. Sometimes a 
blanket or open policy not to exceed a specified amount is made out to 
cover the value of goods on hand at any time. This is desirable where 
goods are not maintained at any fixed amount or quantity, and in case of 
fire the amount of loss must be determined. It seems evident that the 
case under consideration includes the open policy, though it is probable 
that an ordinary policy had been taken out on machinery and fixtures. 
The 80% co-insurance clause requires that at least 80% of the cash value 

208 



PRACTICAL ACCOUNTING 

of the property covered by the policies at the time of the fire be insured. 
If such proportion is carried the insurance companies will pay the full 
amount of the fire loss up to the face value of the policies. If the required 
80% of insurance is not carried, the company will only pay such part of 
the loss as the amount of insurance carried bears to the 80%. The owner 
in that case carries the remaining risk himself; that is, he becomes a co- 
insurer with the insurance company. For example, if property worth 
$100,000 is insured under the 80% clause for $70,000 and a loss of $30,000 
occurs, the insurance company would be required to pay damage claims to 
the extent of $26,250. We get this by taking 70/80 of the claim of $30,000. 
The problem calls for only a statement of fire claim against the insur- 
ance companies, which is presented herewith, but we have added a profit and 
loss statement and balance sheet. These will add to the value of the answer 
as a lesson in accountancy. The statement of claim would no doubt be 
accompanied by the accountant's letter to the client who engaged his 
services. 

Statement of Claim for Loss by Fire, September 16, 1912. 

Value of merchandise inventory Aug. 1, 1912 $ 42,618.97 

Merchandise purchases between Aug. 1, 1912, and Sept. 16, 1912. 103,430.22 

Total merchandise $146,049.19 

Add Manufacturing Charges : 

Labor paid $37,619.14 

Power, light and heat .' 3,716.47 

Factory expense 7,119.11 48,454.72 

Total cost of merchandise $194,503.91 

Deduct cost of goods sold 135,764 43 

Sales $162,917.31 ~ 120. 

(The gross profit has been uniform for several years at 20%..) 

Value of merchandise destroyed $ 58,739.48 

Add value of properties destroyed: 

Machinery, book value Aug. 1, '12. . .$20,419.04 
Additions between Aug. 1 & Sept. 16 1,200.30 $21,619.34 

Less salvage retained 2,500.00 19,119.34 

Furniture and fixtures, value Aug. 1, 1912. $2,000.00 

Additions between Aug. 1 & Sept. 15 147.30 2,147.30 

Total damage claim $ 80,006.12 

Certificate. 
I hereby certify that the above statement of claims is in accordance 
Avith the books, and that in my judgment it represents a fair basis for 
settlement. 

R. I. BENNETT, 
September 18, 1912. Certified Public Accountant. 

209 



C. P. A. QUESTIONS AND ANSWERS 
Balance Sheet. 

As on Sept. 16, 1912, after Adjustment of Fire Loss with the Insurance 

Assets. 

Cash $ 5,418.22 

Accounts receivable 118,871.14 

Bills receivable 6,217.24 

Machinery, salvage valuation 2,500.00 

Claims for fire loss against insurance companies.. . . 80,006.12 

Total assets $213,012.72 

Liabilities. 

Accounts payable $ 72,898.66 

Bills payable '. '. . 63,114.02 

Total liabilities 136,012.68 

Present net capital of Company $ 77,000.04 

Analysis of Capital Account. 

Capital stock paid up $ 50,000.00 

Surplus Aug. 1, 1912 $14,203.16 

Less dividends paid 6,000.00 8,203.16 

Net profit for \y 2 months 18,796.88 



Present capital $ 77,000.04 

Note.— The books should be adjusted to agree with the results shown 



above. 



Operating and Profit and Loss Account 

From August 1, 1912, to September 16, 1912. 

Credits. 

Sales for V/ 2 months $162,917.31 

Fire claim appraised by insurance companies for goods destroyed 58,739.48 

Fire claim for machinery, appraised 19,119.34 

Fire claim furniture and fixtures, appraised , 2,147.30 

Total credits $242,923.43 

210 



PRACTICAL ACCOUNTING 

Charges. 

Merchandise inventory Aug. 1, 1912 $ 42,618.97 

Merchandise purchases 103,430.22 

Labor 37,619.14 

Power, light and heat 3,716.47 

Factory expense 7,119.11 

Cost of merchandise $194,503.91 

Office salaries 2,250.00 

Office expenses 319.54 

Selling expenses 4,716.92 

Insurance 318.16 

Taxes 751.38 

Fire loss, furniture and fixtures 2,147.30 

Fire loss, machinery 19,119.34 

Total charges $224,126.55 



Net profit $ 18,796.; 



MISCELLANEOUS MATTERS. 

Problem No. 1. 

A COAL mining corporation proposes to issue bonds of the denomina- 
tion of $1,000 each to the amount of $500,000 on January 1, 1911, bearing 
interest at 6 per cent per annum, payable semi-annually. Under the terms 
of the mortgage a fund equal to 10 cents per ton of coal shipped is to be 
set aside semi-annually for the first three years, and at the rate of 12 cents 
per ton thereafter, the fund to be used as follows : 

First — To pay the interest on the bonds. 

Second — After paying interest the balance is to be used to redeem and 
cancel bonds at par as of the dates on which the interest is paid; any bal- 
ances remaining in the fund thereafter to be added to the fund of the next 
period. 

It is estimated that the tonnage will be 400,000 tons each six months 
for the first three years, and 500,000 tons each six months thereafter. 

Prepare a tabular statement showing concisely the operation and the 
result of the carrying out of the proposed plan based on the foregoing 
estimates. 

Answer. 

The following tabulated analysis shows the operations and output of 
the coal mine and the various transactions in connection with Bond Interest 
and Bond Pav^ents. It will be seen that the final payment on account of 
bonds was made on July 1, 1917, including the interest on same for six 
months, $510.00. This leaves a balance of $43,480.00 in the Bond Fund, 
which may remain therein or be transferred to Surplus Account. 

211 



C. P. A. QUESTIONS AND ANSWERS 



Tabulated Statement of Operations and Bond Payments from July 1, 1911, 

to July 1, 1917. 



Year 


Output 
Tonnage. 


Bond 
Fund. 


Disposition of Fund. 


Bal. 

Bond Acct. 


Interest 


Bal 


Bonds 
Paid. 


Bal. 

Fund. 


Bo 
1911-1 


nd Issue 

400,000 
400,000 
400,000 
400,000 
400,000 
400,000 
500,000 
500,000 
500,000 
500,000 
500,000 
500,000 
500,000 


40,000.00 
40,000 . 00 
40,000 . 00 
40,000.00 
40,000.00 
40,000.00 
60,000.00 
60,000.00 
60,000.00 
60,000.00 
60,000.00 
60,000 00 
60,000.00 


15,000.00 25.000.00 


25,000.00 
25,000.00 
27,000.00 
27,000.00 
28,000.00 
29,000.00 
50,000 . 00 
51,000.00 
53,000.00 
55,000 . 00 
56,000 . 00 
57,000.00 
17,000.00 




500,000.00 
475,000 00 


" -2 
1912-1 

" -2 
1913-1 

" -2 
1914-1 

" -2 
1915-1 

" -2 
1916-1 

" -2 
1917-1 


14,250.00 

13,500.00 

12,690.00 

11,880.00 

11,040.00 

10,170.00 

8,670.00 

7,140.00 

5,550.00 

3,900.00 

2,220.00 

510.00 


25,750.00 
26,500.00 
27,310.00 
28,120.00 
28,960.00 
49,830.00 
51,330.00 
52,860.00 
54,450.00 
56,100.00 
57,780.00 
59,490.00 


7.50.00 
250.00 
500.00 
680.00 
640.00 
470.00 
800 . 00 
660.00 
110.00 
210.00 
990.00 
43,480.00 


450,000.00 
423,000.00 
396,000.00 
368,000.00 
339,000.00 
289,000.00 
238,000.00 
185,000.00 
130,000.00 
74,000.00 
17,000.00 








5,900,000 


66,000.00 


116,520.00 




500,000 . 00 







July, 1917, Balance of Bond Fund, Surplus Profits, $43,480.00. 



Problem No. 2. 



A public service corporation known as "A" acquires 51 per cent of 
the capital stock of "B," a similar corporation. Subsequently, on January 
1, 1901, it enters into a 99-year lease of the property of "B," thus securing 
a right to the full enjoyment of all the income and earnings of "B" during 
the period of the lease, and agreeing to pay by way of a rental therefore 
a sum sufficient to provide a 6 per cent annual dividend upon "B's" capital. 
Among the assets acquired under the lease were 1,000 shares (par value 
$100 per share) of the stock of "C" corporation. On July 1, 1902, "C" 
paid a 10 per cent stock dividend and gave its stockholders the right to 
purchase at par a further amount of stock equal to 20 per cent of their 
holdings on June 30, 1902, which right was exercised by "A." Dividends 
at the rate of 7 per cent per annum were paid by "C" during the entire 
period under discussion. On July 1, 1909, "A" sold all its holdings in the 
stock of "C" company at $150 per share and received payment therefor in 
cash. Assuming that the stock dividend mentioned above should be treated 
in the same manner as the cash dividends and that for ease of demonstra- 
tion all of "A's" transactions other than those recited above as growing 
out of the acquisition of the shares in "C" company's stock had been sus- 
pended during the period. 

(a) State the method of treatment in "A's" accounts of the stock 
of "C" when acquired as lessee on January 1, 1901. 

(b) Prepare a balance sheet for 'A" as at December 31, 1909, showing 
how you would state the results of the foregoing transactions, having in 
mind especially "A's" relation to "B." 



212 



PRACTICAL ACCOUNTING 

Solution. 

It is a common practice for large corporations, such as railroads, public 
service corporations and industrial companies, to lease and operate the 
properties and equipments of other companies. The contract entered into 
when such a lease is made depends upon the terms thereof and upon the 
mutual arrangements between the companies. Such leases are usually 
drawn with great care and specify clearly and distinctly the relationship 
existing between the companies, the maintenance and equipment of prop- 
erties, the matter of additions and betterments, the handling of income and 
expenditures, the disposition of assets and liabilities, funded debts, etc. 

This lease and the minutes of the Board of Directors give the account- 
ant the information he desires when placing upon the books the proper 
entries and records. When the lease is made the lessee company does not 
necessarily take over any of the accounts of the leased company, in which 
case they continue to be carried on the leased company's books. In that 
case there are no entries to be made on either company's books at the time 
of executing the contract. The operating company continues to carry on' 
business as before and to keep its own accounts, and regular reports are 
made to the lessee company showing the results of operations, etc. The 
net income from operations, of course, goes to the lessee company. Any 
expenditures made by the lessee on account of the lessor are charged to it 
and reimbursement made later except for operating expenses. 

The contract not infrequently provides that the lessee company is to 
take over all current assets and assume the current liabilities, and after 
settlement of current assets and liabilities the balance due to or by the lessee 
company may be adjusted on its own books or else entered to the account 
of the lessor company ; then again the lessee company may take over the 
entire assets and liabilities and credit the balance thereof to the lessor 
company's account. At the expiration of the lease, of course, the fixed 
properties still intact would be handed back to the lessor company, but it is 
probable that, the current assets and liabilities taken over at the begin- 
ning may long since have been eliminated. Additions and betterments to 
leased properties are usually charged against the lessor company and 
reimbursements made at a later date. 

In the question under discussion there are three corporations con- 
cerned, two of which hold stock in other companies, and one of which 
leases and operates one of the other companies. Company "A" owns a 
majority of the stock of company "B," thus giving it a controlling interest 
therein and the right to dictate its business policies. It exercises this right 
by acquiring the property of "B" under lease for a long term of years, 
thereby assuming direct control of its operations and the right to enjoy 
all income from its earnings and investments. In return for this privilege 
it guarantees to the stockholders of "B' 'a 6 per cent dividend. 

We will assume that "A" took over the current assets and liabilities 
of "B," and that it has acquired the ownership and control of all the cur- 
rent assets. Therefore the securities of "C" which are held by "B" are 
acquired and have become the property of "A," thus giving "A" the right 
to dispose of them at any time. 

213 



C. P. A. QUESTIONS AND ANSWERS 

On July 1, 1902, "C" declared a cash dividend of 7 per cent (and the 
same was declared each year thereafter) and also a stock dividend of 10 
per cent. Having acquired "B's" ownership in the stock of "C," "A" is 
entitled to this income. Even if "A" had not acquired the full ownership 
of "B's" current assets it would be entitled to these two dividends, since 
the question states that both stock and cash dividends are to be 
"treated in the same manner" — considered as income. The right to pur- 
chase 20 per cent of "B's" holdings in "C" company would accrue to "A" 
under our assumed plan and would be computed on the 1,000 shares owned 
on June 30, 1902, before the stock dividends had been declared. In case 
"B" had retained the ownership of its assets then it, and not "A," would 
have the right to subscribe for and hold said $20,000,000 of additional invest- 
ment. The sale of stock of "C" on July 1, 1909, would consist of "A's" 
entire holdings of 1,300 shares, for the sum of $195,000.00, thereby netting 
a profit to "A" of $65,000.00. The book entry in this case would debit cash 
for the entire amount, $195,000.00, and credit securities for $130,000.00 
and income account for $65,000.00. Then the balance sheet required as on 
Dec. 31, 1909, would not show the transactions covering the investments 
in "C" company's stock, but would exhibit the usual accounts of "A" and 
any remaining current assets and liabilities of "B," or charges against 
"B's" account. The remaining assets or liabilities of "B" would undoubt- 
edly be merged with the current accounts of "A" and not shown separately. 
In case of bonds or other obligations assumed, they would be shown 
separately as a liability, and a corresponding charge against "B" as an 
offsetting asset. 

(a) On the assumption that "A" on Jan. 1, 1901, took over the cur- 
rent assets and liabilities of "B" we have the first entry shown below. The 
assumed balance to "B's" credit may be liquidated later, but it often hap- 
pens that the liabilities are the larger. 

We will also assume that "B" had a bond issue of $100,000.00 outstand- 
ing and which "A" assumed, giving an entry similar to the second. 

(b) For the purpose of showing a balance sheet we assume values to 
complete a suitable exhibit. Any of the current assets or liabilities of 
"B" still remaining are merged into the accounts of "A" excepting the guar- 
anteed bond issue with its equivalent offset among the assets. Agreements 
other than those assumed, as stated above, would necessarily modify the 
arrangement with reference to the relations existing between "A" and "B." 

Current Assets $135,000.00 

Investments (C Stock) 100,000.00 

To Company B ' ' $235,000.00 

For current assets taken over as per contract. 
Company"?," 115,000.00 

To Current Liabilities 115,000.00 

For obligations of "B" assumed as per contract. 
Leasehold interest Company B $100,000.00 

To Guaranteed Bonds $100,000.00 

For issue of 5% bonds of "B" due 1930, guar- 
anteed per contract. 

214 



PRACTICAL ACCOUNTING 
A's Balance Sheet December 31, 1909. 

ASSETS. LIABILITIES. 

Plant and Premises $ 350,000.00 Capital Stock $ 500,000.00 

Machinery and Equipment... 250,000.00 Sinking Fund Bonds, 5%.... 200,000.00 
Investments: Guaranteed Bonds of Com- 

Company B Stock. $ 51.000 pany B 100,000.00 

In other Co.'s 100,000 151,000.00 Sinking Fund Reserve 125,000.00 



Replacement and Renewal 



Current Assets, Supplies, etc. 264,000.00 Fund 75,000.00 

Sinking Fund: Current Liabilities 150,000.00 

For redemption of outlying Surplus Fund 40,000.00 

bonds 125,000.00 Net Revenue 50,000.00 

Leasehold Interest in Co. B.. 100,000.00 



$1,240,000.00 $1,240,000.00 



Problem No. 3. 

" A " and " B " are partners carrying on a business in Winnipeg. On 
January 1, 1910, after adding profits for the past half year, " A's " capital 
amounted to $150,000, and " B's " to $100,000. On that date they take into 
partnership " C " upon the following terms, viz. : He is to bring in capital 
amounting to $25,000, and each partner is to be credited with interest on 
his capital at 6 per cent per annum. All profits (after debiting interest) 
up to $25,000 are to be shared by " A " and " B " exclusively in proportion to 
the amounts of their capital at January 1, 1910. All profits in excess of 
$25,000 are to be shared equally by the three partners. Accounts are to 
be prepared and profits and interest credited half-yearly. " C " is to be 
credited with a salary of $5,000 per annum. On June 30, 1910, the profits 
divisible after debiting " C's " salary, which he has drawn, but before charg- 
ing interest on partner's capital, amounted to $75,000. The partners' with- 
drawals, which are not chargeable with interest, were : " A," $12,500 ; " B," 
$10,000, and " C," $3,750. Draw up partners' separate accounts as they 
should stand on July 1, 1910. 

Assume that instead of a profit a loss of $75,000 has occurred. How 
would you have treated it in the accounts in the absence of any direct 
provision in the partnership agreement relative to losses? 

Solution. 

The following capital accounts and profit and loss accounts are clear 
enough without additional comment. " C's " salary of $2,500.00 for the half- 
year is credited as per contract, and his drawings are assumed to have in- 
cluded this amount. 

In the event of a loss of $75,000.00, as suggested in the question, this 
amount plus interest on capital aggregating $83,250.00 would be charged 
in equal proportions to the three partners, giving to each $27,750.00. This 
is on the assumption that no direct provision has been made in reference to 
losses. Each partner would of course be credited with interest on capital 
per agreement. With reference to the assumed loss, if the existing agree- 
ment between the partners implied a similar application in case of losses, 
then the matter of apportioning said losses would provide an interesting 
problem. 

215 



C. P. A. QUESTIONS AND ANSWERS 

A's Account. 

1910 1910 

June30 Cash $12,500.00 Jan. 1 Balance $150,000.00 

" 30 Balance . .. 170,916.67 June 30 Interest 4,500.00 

" 30 Gain 15,000.00 

13,916.67 



$183,416.67 $183,416.67 



July 1 Balance $170,916.67 



B's Account. 

1910 1910 

June30 Cash $10,000.00 Jan. 1 Balance $100,000.00 

" 30 Balance 116,916.67 June30 Interest 3,000.00 

" 30 Gain 10,000.00 

" 13,916.67 



$126,916.67 $126,916.67 



July 1 Balance $116,916.67 



C's Account. 

1910 1910 

June30 Cash $ 3,750.00 Jan. 1 Cash $25,000.00 

" 30 Balance 38,416.66 June30 Salary 2.50000 

" 30 Interest 750 00 

" 30 Gain 13,916.66 



$42,166.66 $ 42,166.66 



July 1 Balance...- $38,416.66 



Distribution of Profits June 30, 1910. 

Profits for distribution $75,000.00 

Less Interest on Capital : 

Interest due A $ 4,500.00 

Interest due B 3.000.00 

Interest due C 750.00 8.250.00 



Balance for distribution $66,750.00 

Deduct amounts due A and B : 

Due A 3/5 of 25,000 $15,000.00 

Due B 2/5 of 25,000 10,000.00 25,000.00 



Balance for equal division $41,750.00 

A's 1/3 share $13,916.67 

B's 1/3 share 13.916.67 

C's 1/3 share 13,916.66 41,750.00 

216 



PRACTICAL ACCOUNTING 

Problem No. 4. 

A fire insurance company began business with a capital of $400,000, a 
surplus of $400,000 paid in cash. At the end of the year its books show the 
following: 

Income. 

Gross premiums, $707,135.84; less re-insurance rebates and return 
premiums, $94,971.27; interest on mortgage loans, received in cash, $6,- 
803.65, and interest accrued and due, $1,349.87; interest on collateral loans, 
received in cash, $1,014.44, and accrued and due, $4,228.32 ; interest on bonds 
and dividends on stocks, received in cash, $16,841.65, and accrued and due, 
$186.00; profit on sale of assets, $4,204.52. 

Outgo. 

Gross amount paid for losses, $115,048.22; less salvages, $14,900; gross 
claims for losses in process of adjustment, $32,263.83 ; gross claims for 
losses resisted, $8,618.50; less due and accrued for re-insurance, $11,412.71 ; 
commissions on brokerage, paid in cash, $123,544.19, and due or to become 
due, $9,519.24; salaries, fees and all other charges of officers, clerks and 
other employes paid, $24,755.68; rents paid, $4,224.93; taxes, licenses, in- 
surance department fees paid, $9,764.99; all other expenses paid, $20,820.12; 
due and accrued expenses, $621.29; due and accrued return premiums, 
$9,597.36 ; due and accrued re-insurance premiums, $6,856.48. The market 
value of securities owned was $20,625 less than their cost. 

The risks in force at the end of the year carried premiums of $580,- 
867.07, of which sum $424,747.65 was the aggregate premiums on risks run- 
ning one year or less, and $156,119.42 was on risks running more than one 
year, the unearned premiums on which amounted to $111,950.46. 

Set up the income accounts, making due allowance for unearned 
premiums. 

Solution. 

Income. 

Gross premiums $707,135.84 

Less re-insurance, rebates and return premiums. .. 94,971.27 

— $612,164.57 

Interest on mortgage loans: 

Cash $ 6,803.65 

Accrued and due 1,349.87 

8,153.52 

Interest on collateral loans : 

Cash $ 1,014.44 

Accrued and due 4,228.32 

^— 5,242.76 

Interest on bonds and dividends on stocks: 

Cash $ 16,841.65 

Accrued and due 186.00 

17,027.65 

Profit on sale of assets 4,204.52 

Total income $646,793.02 

217 



C. P. A. QUESTIONS AND ANSWERS 

Outgo. 

Gross losses paid $115,048.22 

Less salvages 14,900.00 

$100,148.22 

Gross losses in process of adjustment'. .$32,263.83 

Gross losses resisted 8,618.50 

$ 40,882.33 

Less due and accrued for re-insurance 11,412.71 

29,469.62 

Commissions : 

Paid in cash $123,544.19 

Due or to become due 9,519.24 

133,063.43 

Salaries, fees, etc., of officers and clerks, paid 24,755.68 

Rents paid • 4,224.93 

Taxes, licenses and insurance dept. fees paid 9,764.99 

All other expenses: 

Paid $20,820.12 

Due and accrued 621.29 

21,441.41 

Returns, premiums, due and accrued 9,597.36 

Re-insurance premiums, due and accrued 6,856.48 

Depreciation in value of securities 20,625.00 

$359,947.12 
Premiums on risks running one year or 

less '.. $424,747.65 ^ 

Unearned premiums, 50% $212,373.82 

Premiums on risks running more than 

one year $156,119.42 

Unearned premium 111,950.46 

Total unearned premium 324,324.28 

Total outgo $684,271.40 

Total income 646,793.02 

Net decrease in surplus $ 37,478.38 

Comments. 
According to the laws of New York State a reserve is required of the 
full premium for the average proportion of time unexpired, without any 
deduction for the expenses which have been prepaid at the outset, and 
where there is the usual proportion of long-term policies this brings out 
an average reserve on the total premium of as much as 75%. As the result, 
a new company established in the United States incurs a serious risk of 
having its license withdrawn by the authorities at the end of the first year 
in consequence of impairment of capital, unless it has adopted the neces- 
sary precaution of requiring its shareholders to pay up a substantial sum 
as reserve in addition to the paid-up capital. 

218' 



PRACTICAL ACCOUNTING 

Problem No. 5. 

The trial balance of Jones & Smith, Chicago branch, shows Dec. 31 
the following: 

Home office $2,000 

Due from customers $2,500 

Cash on hand 1 ,000 

Expenses 1 ,900 

Merchandise 3,400 



$5,400 $5,400 

Inventory, $1,000. 

Draft the necessary journal entries to close the accounts on the branch 
books and the entries to be made in the home office, to make the books 
agree. 

Solution. 

A. 

Chicago Branch Books — Journal entries : 

Profit and loss $1,900 

To expenses $1,900 

Merchandise $3,400 

Stock on hand 1,000 

To profit and loss $4,400 

Profit and loss $2,500 

To home office account $2,500 

Net profits for the period transferred to home office account. 

Ledger Accounts — After Closing. 

Home Office Account. 

Dec. 31— Balance $2,000 

31— Profits 2,500 



$4,500 
Merchandise Account. 
Dec. 31— Stock on hand $1,000 

Cash Account. 
Dec. 31— Cash on hand .$1,000 

Customer's Controlling Account. 
Dec. 31— Balance $2,500 

Balance Sheet, as at Dec. 31. 

ASSETS. LIABILITIES. 

Cash $1,000 Home office account: 

Customers 2,500 Balance $2,000 

Stock in trade 1,000 Profits 2,500 



$4,500 $4,500 



Profit and Loss Account. 

Expenses $1,900 Mdse. account $3,400 

Profits, transferred 2,500 Stock on hand 1,000 

$4,400 $4,400 

219 



C. P. A. QUESTIONS AND ANSWERS 

B. 
Home Office Books — Journal entries : 

Chicago trading account $1,900 

To Chicago Branch account $1,900 

Chicago Branch account $4,400 

To Chicago trading account : 

Merchandise $3,400 

Stock on hand 1,000 $4,400 

Chicago trading account : $2,500 

To general profit and loss account $2,500 

Being profits on Chicago Branch. 

Chicago Branch Account. 

Dec. 31— To balance $2,000 Dec. 31— By Chicago trading acct. . $1,900 

31 — To Chicago trading acct. 4,400 31 — By balance down: 

Cash $1,000 

Customers 2,500 

Stock in trade 1,000 

$4,500 



$6,400 $6,400 



Jan. 1— To balance $4,500 

Chicago Trading Account. 
Dec. 31— To Chicago branch acct. .$1,900 Dec. 31— By Chicago Branch mdse. $3,400 
31— Expenses: General profit 31 — By Chicago Branch stock 1,000 

and loss account 2,500 



$4,400 $4,400 



General Profit and Loss Account. 

Dec. 31— By Chicago trading acct. $2,500 

Comments. 

From the Chicago branch trial balance submitted it is assumed that 
the Chicago branch keeps a complete and independent set of books, con- 
ducting all its business on independent lines, only making remittances on 
receiving funds from the home office as occasion demands. The branch 
will open an account called "Home office account," crediting thereto the 
goods and cash received, corresponding accounts being debited. 

It will also open a "Home office remittance account," to which all 
remittances sent home will be debited. 

It will thus be seen that the "Home office account" in the branch 
books corresponds to the capital account of a sole proprietor, and the 
"Home office remittance account" resembles the drawing account. 

In the home office books an account will be opened, "Branch No. 1 
account," to which will be debited the goods or cash originally and subse- 
quently sent. 

Fixed assets are usually not recorded in the branch books ; an account 
is opened in the home office general ledger for the same. 

Remittances received from the branch office will be credited to 
"Branch No. 1 remittance account;" at the end of the period it will be 
closed into "Branch No. 1 account." 

220 



PRACTICAL ACCOUNTING 

The objects to be kept in view when constructing a system for branch 
house books will be : 

1. The control and supervision of the branch transactions. 

2. The production of accounts showing profits or losses on each 
branch. 

3. The presentation of the results in such form that comparisons can 
easily be made. 

In the general balance sheet the $4,500 debit balance of Chicago 
branch account can either be shown among the assets as excess of branch 
assets over liabilities, or, in other words, "balance due by the branch," 
or the various assets and liabilities at the branch can be stated separately, 
the latter mode being preferable, as it more truly represents the position 
of the branch. 

Problem No. 6. 

A ships to B on consignment, under date of April 4, merchandise to 
the value of $1,500, paying $15 cartage and $6 insurance. 

B receives the consignment April 20, paying freight $70 and cartage 
$12. He subsequently disposes of the merchandise by sale as follows: 
April 30, $400; May 30, $800; June 30, $600; on which latter he pays stor- 
age charges, $30. He charges commissions on sales 5%, credits net interest 
at 6% and transmits account sales with remittance of net proceeds to A, 
who receives them July 10. 

Prepare shipment account as appearing on A's ledger and consignment 
account as appearing on B's ledger. 

Solution. 
"B" Consignment Account (A's Ledger). 

Apr. 4— To mdse $1,500.00 July 10— By "B," account sales. $1,800.00 

4 — To cartage 15.00 

4 — To insurance 6.00 

July 10— To freight, account "B" 70.00 
10— To cartage, acct. "B".. 12.00 
10— To storage, acct. "B'\. 30.00 
10— To commission, 5%... 90.00 
10— To profits 77.00 



$1,800.00 $1,800.00 

"B" Account, 

July 10— To consignment acct.. $1,800.00 July 10— By freight $ 70.00 

10— To interest 11.10 10— By cartage 12.00 

10— By Storage 30.00 

10 — By commission 90.00 

10— By interest 1.50 

10 — By net proceeds 1,607.60 



$1,811.10 $1,811.10 



Interest Account. 

Apr. 20— To "B," on advances $ 1.50 July 10— By "B" $11.10 

81 days, $112, at 6%. Per account sales. 6%: 

July 10— To profit and loss 9.60 Apr. 30— $400, 71 days. $4.72 

May 30— $800. 40 days. 5.36 
June 30— $600, 10 days. 1.02 

$11.10 $11.10 

221 



C. P. A. QUESTIONS AND ANSWERS 

Profit and Loss Account. 

July 10 — By consignment account 

"B" $77.00 

10— By interest 9.60 



$86.60 



"A" Consignment Account (B's Ledger). 

Apr. 20— To "A" $1,500.00 Apr. 30— By sales $ 400.00 

June 30— To "A," profits 300.00 May 30— By sales 800.00 

June 30— By sales 600.00 

$1,800.00 $1,800.00 

"A" Account. 

Apr. 20— To freight $ 70.00 Apr. 20— By consignment $1,500.00 

20— To cartage 12.00 June 30— By profit 300.00 

20— To storage 30.00 July 8— By interest 11.10 

June 30 — To commission, 5% . . 90.00 

July 8 — To int. on advances... 1.50 

8 — To net proceeds 1,607.60 



$1,811.10 $1,811.10 



Comments. 

A consignment account is an account kept in respect of goods sent to 
an agent for the purpose of sale on commission in order to ascertain the 
profit or loss on the transaction. It is a temporary trading account. 

Goods should be charged to this account at cost, but it is^the practice 
in many cases to invoice at cost plus a percentage, which percentage, of 
course, has to be allowed for in ascertaining the final result. This method 
is frequently adopted in order to prevent the agent from knowing the cost 
price. 

The following entries will require to be made in the consignor's books : 

1. Debit consignment account and credit the goods on consignment 
account with the cost price on the goods. 

2. Debit consignment account and credit cash or the creditor with 
any expenses incurred in connection with those goods by the consignor. 

3. If the consignor closes his accounts prior to such goods being sold, 
the balance of the consignment account will be treated as stock on con- 
signment, and the credit balance standing to the goods on consignment 
account written off to the credit of the trading account. 

4. As soon as the consignor receives from the consignee an account 
sales he will 

(a) Debit the consignee's personal account and credit consignment 
account with the gross proceeds.. 

(b) Debit consignment account, credit the consignee's personal ac- 
count with any expenses incurred by the consignee on his behalf, together 
with the agreed commission charged by the consignee. 

5. The balance of the consignment account will then represent the 
profit or loss on that particular consignment of goods. 

6. The balance of the consignee's personal account will represent the 
amount owing by him to the consignor and will be closed by net proceeds 
remitted. 

222 



PRACTICAL ACCOUNTING 

The consignee's personal account is often debited and the consignment 
account credited with the net proceeds of the goods, but this is not recom- 
mended, inasmuch as the consignment account will not show in this case 
the whole of the details as disclosed by the account sales. 

The treatment of interest involved calls for some attention. The best 
way is to close the consignment account into profit and loss, then show 
the interest in an account of that name, to be closed out into profit and 
loss; thus the profit on merchandise and interest will show separately. 

The consignee again records his transactions as follows : 

1. Debit "consignment from X account" and credit the consignor's 
personal account for value of goods received. 

2. Debit consignee's customers for goods sold and credit "consign- 
ment from X account" with corresponding amounts. 

3. Transfer the balance of the "consignment to X account" to the 
consingnor's personal account, showing the merchandise profits. 

4. Debit consignor's personal account with all expenses incurred, 
commissions inclusive, and credit corresponding accounts on the con- 
signee's books. 

5. The balance of consignor's account will then represent the amount 
due from the consignee and will be closed by net proceeds remitted. 

Note. — Some accountants favor this method : 

The consignee debits his customer and credits the consignor for the 
sale, because the consignee is liable to the consignor for the proceeds 
which he will receive from his customer. Selling goods for cash, the con- 
signee simply debits cash and credits the consignor. 

By this method, the "consignment from X account" is omitted. 



Problem No. 7. 

A malting company was placed in the hands of a receiver in bank- 
ruptcy. The assets inventoried by the receiver were: 

Accounts receivable j •. $218,477.15 

Grain and products in malt house 29,359.74 

An order of the court was entered instructing the receiver to continue 
the operation of the business. After the receiver had operated the business 
two months, a settlement was effected, and the receiver discharged by the 
court, the bankrupt company resuming business. The receiver's books of 
the bankrupt company's accounts showed at the date of his discharge: 

Collections on account of the accounts receivable inventoried above 
$10,097.60; they showed that in trade the receivers had made gross sales 
to the amount of $114,806.62; his grain purchases were $110,786.61 ; manu- 
facturing expense, $7,279.07 ; selling expense, $7,956.97 ; receiver's charges. 
$1,000; discounts, shortages and merchandise returned, $1,370.85; on hand 
in grain and products, $51,005.62; he has collected in cash on receiver's 
sales, $65,448.83; he owes an open account of $5,237.52; borrowed from 
banks, $46,251.10. 

Prepare trading statement showing profit or loss from receiver's opera- 
tions, and prepare final balance sheet statement from the face of the re- 
ceiver's accounts of the bankrupt company at the close of his receivership. 

223 



C. P. A. QUESTIONS AND ANSWERS 

Solution. 

First and Final Account of A. Brown, Receiver. 
The Excelsior Malting Co., Chicago. 
November 3, 1910. 
Copy of inventory of The Excelsior Malting Co. at the commencement 
of Receivership September 1, 1910. 

Book value Estimated value 

Accounts receivable $221,900 Sc. Al $218,477.15 Sc. A3 

Grain and products in malthouse 32,000 Sc. A2 29,359.74 Sc. A4 

Total $253,900 $247,836.89 

Trading Statement, November 3, 1910. 
Income. 

Sales, per schedule M, part 1 $114,806.62 

Less: 
Discounts, shortages and merchandise returned, 

schedule B, part 2 1,370.85 

Total net sales $113,435.77 

Deduct : 
Cost of merchandise sold, per statement below 99,060.06 

Gross profits $ 14,375.71 

Inventory at beginning, schedule A, part 2. ....... .$ 32,000.00 

Purchases, schedule C 1 10,786.61 

Manufacturing expense, schedule D, part 1 7,279.07 

$150,065.68 
Less : 
Stock-in-trade, Nov. 30, 1910, schedule E 51,005.62 

$ 99,060.06 
Expenditures. 

Selling expenses, per schedule D, part 2 $ 7,956.97 

Receiver's charges, per schedule D, part 3 1,000.00 

8,956.97 

Leaving net profits from receiver's operations $ 5,418.74 

Final Balance Sheet at Close of Receivership, November 3, 1910. 

Assets. 

Accounts receivable, schedule K $259,789.34 

Viz: 
Outstanding accounts at beginning, schedule A, 

part 1 $221,000.00 

Sales, schedule B, part 1 114,806.62 

$336,706.62 
'224 



PRACTICAL ACCOUNTING 

Deduct: 

Collected old accounts $10,097.60 

Collected new accounts 65,448.83 

Schedule F 1,370.85 

$ 76,917.28 

Sc.B,part2 $259,789.34 

Stock-in-trade, schedule E $ 51,005.62 

Cash on hand, per cash account 12.40 

Total assets $310,807.36 

Liabilities. 

Notes payable, schedule G $ 46,2ol,10 

Open creditors, schedule H 5,237.52 

51,488.62 

Balance $259,318.74 



Summarized Statement of Receipts and Disbursements. 

Receipts. 

Accounts receivable, old $ 10,097.60 

Accounts receivable, new (per schedule F) 65,448.83 

Notes payable (per schedule G) 46,251.10 

Total receipts $121,797.53 

Disbursements. 
Manufacturing expenses (per schedule D, part 1)..$ 7,279.07 

Selling expenses (per schedule D, part 2) 7,956.97 

Creditors (per schedule I) 105,549.09 

Receiver's charges (schedule D, part 3) 1,000.00 

Total disbursements 121,785.13 

Cash on hand $ 12.40 



Comments. 

As to the final statement of assets and liabilities at the close of the 
receivership the real financial condition of the malting company cannot be 
ascertained from the facts given in the question under review. 

Only assets are given at the beginning of the receivership ; a statement 
of liabilities owing previous to the appointment of the receiver is omitted 
in the question. Hence, as stated above, the net capital of the concern at 
the end of the receivership cannot be determined. 

In showing the accounts of a receiver it is almost impossible to give a 
suppositious case, as would be done in an executor's account. 

99n 



C. P. A. QUESTIONS AND ANSWERS 

Problem No. 8. 

The American Gas Light Company had operated a gas plant since the 
beginning of the year 1906. For the purpose of acquiring this industry, 
the National Gas Company was organized April 1st, 1909, with a capital 
of $100,000, and after purchasing all of the capital stock of the American 
Company, issued $100,000 of first mortgage 6 per cent gold bonds, dated 
April 1st, 1909, due April 1st, 1939, interest payable January 1st and July 
1st of each year. 

In acquiring the stock of the American Company, paying organization 
expenses, etc., the National Company used all its capital stock and $90,000, 
first mortgage bonds, holding in reserve $10,000 of bonds for improvements. 

Make the necessary journal entries to open the books of the new com- 
pany and prepare a balance sheet dated June 30, 1909. 

Also prepare a profit and loss account showing the average annual re- 
sults of the operations of the old company. 

The inventory was as follows: Coal, 400; coke, 150; tar, 100. Total, 
650. 

January 30, 1909, the two companies were united by a certificate of 
merger and new books were opened. The accounts of the American Gas 
Light Company had not been closed at any time during that company's 
existence, and at the date of the merger stood as follows : 

DEBITS. CREDITS. 

Land, Buildings, Machinery, Capital •..$50,000.00 

Mains and Franchises $ 82,360.73 Bills Payable 5,000.00 

Materials and Tools 1,856.30 Accounts Payable 2,679.81 

Coal (including freight) 47,540.45 Gas Account 157,683.33 

Labor 50,668.73 Coke Account 6,210.69 

Repairs 13,872.46 Tar Account 4,500.54 

Water and Supplies 3,869.39 

Superintendence 3,500.00 

Salaries (clerks and collectors) 5,600.00 

Office Expenses 2,100.00 



Taxes 


1,435.00 
4,237.10 


Interest 


1,450.40 


Cash 


2,251.47 


Other Accounts Receivable... 


3,210.44 
2,121.90 



$226,074.37 $226,074.37 



SOLUTION. 
Manufacturing Account, June 30, 1909. 
Coal $47,540.45 Manufacturing Cost transfer- 
Labor 50,668.73 red to Trading Account. . . .$124,473.13 

Repairs 13,872.46 

Water 3,869,39 

Superintendence 3,500.00 

Insurance 1,435.00 

Taxes 4,237.10 



Less Inventories: 

Coal $400 

Coke 150 

Tar 100 



$125,123.13 



650.00 



Manufacturing Cost ....$124,473.13 $124,473.13 

226 



PRACTICAL ACCOUNTING 



Trading Account. 



Manufacturing Cost $124,473.13 Sales $157,683.33 

Gross Profits to P. & L. Ac- Gas Account 6 '?3,Xr . 

count 43,921.43 Coke Account 4,500.54 

$168,394.56 $168,394.56 



Profit and Loss Account. 

Salaries $ 5,600.00 Gross Profits . . « $ 43,921.43 

Office Expenses 2.100.00 

$ 7.700.00 
Ordinary Business Profits, bal- 
ance down 36,221.43 



$ 43,921.43 $ 43,921.43 



Net Profits Account. 

Interest $ 1,450.40 Balance down $ 36,221.43 

Net Profits to surplus account 34,771.03 



$ 36,221.43 $ 36,221.43 



Balance Sheet of Old Company After Closing Books. 

Land, Buildings, Machinery, Bills Payable $ 5,000.00 

Mains and Franchises $ 82,360.73 Accounts Payable 2,679.81 

Materials and Tools 1,856.30 Capital Stock 50,000.00 

Inventories 650.00 Surplus 34,771.03 

Consumers' Accounts 3,210.44 

Other Accounts Receivable... 2,121.90 

Cash 2,251.47 



$ 92,450.84 $ 92,450.84 



Opening Entries of New Company. 

Sundry Assets, as per balance To Liabilities, as per balance 

sheet $ 92,450.84 sheet $ 7,679.81 

Capital Stock: Old Company _ To Capital Stock, new 100,000.00 

under merger. This is new To Capital Stock, old 50,000.00 

treasury stock of new Com- To Bonds 90,000.00 

pany 50,000.00 To Interest on Bonds 1,350.00 

Treasury Bonds 10,000.00 6% on $90,000 three months 

Organization Account 106,578.97 Reserve Account 10,000.00 



$259,029.81 $259,029.81 



Consolidated Balance Sheet, as at June 30, 1909. 

Sundry Assets $199,029.81 Liabilities $ 7,679.81 

Treasury Stock 50,000.00 Capital Stock 150,000.00 

Treasury Bonds 10,000.00 Bonds 90,000.00 

Bond Interest 1,350.00 

Reserve Account 10,000.00 



$259,029.81 $259,029.81 

227 



C. P. A. QUESTIONS AND ANSWERS 

Problem No. 9. 

The "A" corporation to prevent injurious competition purchases from 
the "B" corporation, a competing firm, the whole of its business as a going 
concern on January 1, 1910, for $500,000, subject, however, to certain con- 
ditions stated below. 

The "B" corporation agrees to continue trading under its old manage- 
ment on behalf of and at the expense of the "A" corporation until December 
31, 1910, when if the profits earned amount to less than $40,000 the "A" 
corporation reserves to itself the right to cancel the agreement for purchase 
on payment of the difference between the earnings for the year and $40,000. 

At December 31. 1910, the profits for the year earned by the "B" cor- 
poration amount to $50,000, and the "A" corporation actually takes over 
the "B" corporation, paying $450,000 in full settlement. 

Criticize the following methods of treating the transaction, and state 
which you consider correct, giving reasons for your opinion. 

(A) Debit investment account with $500,000, and credit profit and loss 
with $50,000 earnings. 

(B) Debit investment account with $450,000. 

(C) Debit investment account with $500,000 and credit Special Re- 
serve account with $50,000. 

It may be taken as an ascertained fact that the assets are fully worth 
$500,000 at the time of purchase by the "A" corporation. 



Solution. 

A. 

To debit investment account $500,000 is O. K., but crediting profit and 
loss account with $50,000, depositing the purchase profits would be incor- 
rect; these profits are actually artificial and could be distributed in equal 
installments over a number of years for the benefit of present future stock- 
holders in order to equalize the dividends. Proposition A, therefore, will 
not do. 

B. 

This entry will not do ; it does not give a clear and proper expression 
of the whole transaction. $450,000 would be understating the actual value 
($500,000) of the investment, and it ignores the profits, $50,000, entirely; 
such profits must appear in some form on the books in order to show the 
full and correct history of the whole transaction. 

C. 
This entry gives the correct expression of the purchase. 

1. It shows the investment at its actual value. 

2. It shows a correct disposition of the profits, i. e., carried to a reserve 
account to be used at the pleasure of the directors, i. e., to be distributed 
over a number of years, available for dividends, or kept intact to strengthen 
the financial position of the company. 

22S 



PRACTICAL ACCOUNTING 

Problem No. 10. 

S and T began business August 1st, 1909, S investing $8,000 and T in- 
vesting $5,000, gains and losses to be shared equally and no interest allowed 
on investments or charged on withdrawals. The firm was dissolved May 1, 
1910. The books had been kept in a haphazard fashion, but the partners 
agreed to the following statement which was submitted for settlement : Net 
debit of S, $2,100; net credit of T, $3,500; cash on hand, $3,400; 10 shares 
bank stock, (market value $1,100) ; expense debit, $5,100; profit and loss 
debit, $3,000; credit, $500. The bank holds the firm's note for $2,000, on 
which there is accrued interest of $60. 

Prepare a statement showing the settlement of the partnership affairs 
of the firm. 

Solution. 

Assets. 

S $2,100.00 

Cash 3,400.00 

Bank Stock 1,100.00 

$6,600.00 

Liabilities. 

T $3,500.00 

Note and Interest 2,060.00 

5,560.00 



Net Profit $1,040.00 

S. Account. 

Balance $2,100.00 y 2 Net Profit $ 520.00' 

Balance 1,580.00 



$2,100.00 $2,100.00 



Balance ". $1,580.00 



T Account. 



Balance $3,500.00 

y 2 Net Profit 520.00 



Balance $4,020.00 

Balance Sheet. 

Cash $3,400.00 Note and Interest $2,06000 

Bank Stock 1,100.00 T Account 4,020.00 

Accounts receivable, S 1,580.00 



$6,080.00 $6,080.00 

229 



C. P. A. QUESTIONS AND ANSWERS 

' Problem No. 11. 

The Smith Brewing Company, with $1,000,000 capital stock, the Young 
Brewing Company, with $500,000 capital stock, and the Star Brewing Com- 
pany, with $400,000 capital stock, agree to consolidate as the Universal 
Brewing Corporation, the new company to buy all the properties of the 
old companies at a valuation to be fixed by appraisal, payment therefor to 
be made in full-paid stock of the new company, the old companies to pay 
off their own indebtedness. 

The appraised values of the old companies are as follows: 





Real Estate 

and 

Buildings 


Plant 


Cash 


Bills 
Receivable 


Horses, 

Wagons. 

and Harness 


Office 
Furniture 


Total 


Smith 

Young 

Star 


$680,000 
327.000 
126,000 


$390 000 
160.000 
71.000 


$15,000 
3.000 
1.000 


$10,000 
6,000 


$4,000 
3.000 
1.500 


$1,000 

1,000 

500 


$1,100 000 
500 000 
200.000 


Total appraised value 


$1,800,000 



On this valuation the Universal Brewing Corporation issued $2,000,000 
of stock, shares $100 each, which was divided pro rata among the old com- 
panies on the basis of their appraised value, no fractional shares of stock 
to be issued, odd amounts to be paid old companies in cash. 

Give journal entries necessary to set up property accounts and credit 
old companies with their pro rata on the books of the new company. 

At the time of the consolidation the ledger accounts of the Star Brew- 
ing Company were as follows : 

Real Estate and Buildings $250,000 

Plant 247,000 

Cash 1,000 

Horses, Wagons and Harness 1,800 

Office Furniture 1 ,200 



$501,000 

Capital Stock $400,000 

Bills Payable 50,000 

Accounts Payable 51 ,000 



$501,000 
Make the proper journal entries to liquidate in stock of the new com- 
pany the liabilities other than capital stock, to apportion the remaining 
stock and cash, and to close the books of the Star Brewing Company. 

Solution. 
Find the pro rata amounts due each company of the $2,000,000 new 
stock issued in excess of the total appraised value, $1,800,000. 

Smith. 

11X200000-18=$122,222.22;=$22.22 to be paid in cash. 

Young. 

5X200000^18=$ 55,555.56 ;=$44.44 to be paid by him. 



230 



PRACTICAL ACCOUNTING 

Star. 
2X200000^-18=$ 22,222.22 ;=$22.22 to be paid in cash. 

Young pays Smith and Star each $22.22 cash, and the even amount of 
stock of the consolidated company will stand : 

Smith $122,200+$1.100,000=$1, 222,200 

Young 55,600+ 500,000= 555,600 

Star 22,200+ 200,000= 222,200 

$200,000+$ 1 ,800,000=$2,000,000 

Journal Entries, Universal Brewing Corporation: 

DEBITS. 

Real Estate and Buildings: 

Smith $ 680.000 

Young 327,000 

Star ., 126,000 

Plant: 

Smith 390,000 

Young 160,000 

Star 71,000 

Cash : 

Smith ;.. 15,000 

Young , 3,000 

Star .' +000 

Bills Receivable : 

Smith 10,000 

Young 6,000 

Harness, wagons and harness : 

Smith 4,000 

Young 3,000 

Star. 1,500 

Office Furniture : 

Smith 1,000 

Young 1,000 

Star 500 

Goodwill r.. 200,000 

$2,000,000 

CREDITS. 

To Smith Capital Stock $1,222,200 

To Young Capital Stock 555,600 

To Star Capital Stock 222,200 

- $2,000,000 

Journal Entries, Star Brewing Company. 

DEBITS. 

Consolidated Stock , $222,200.00 

Cash from Young 22.22 

$222,222.22 
231 



C. P. A. QUESTIONS AND ANSWERS 

CREDITS. 

To Real Estate and Buildings $126,000.00 

To Plant 71,000.00 

To Cash 1,000.00 

To Horses, Wagons and Harness 1,500.00 

To Office Furniture 500.00 

To Profit and Loss 22,222.22 



$222,222.22 
Assets transferred to Universal Brewing Company in lieu of consoli- 
dated stocks, plus $22.22 cash. Balance profit. 



Profit and Loss Account $301,000 

To Real Estate and Buildings $124,000 

To Rent 176,000 

To Horses, Wagons and Harness 300 

To Office Furniture 700 

To close the property accounts, the losses being the difference between 

the book values and the appraised values, i. e., $501 ,000— $200,000=$301 ,000. 



To liquidate the liabilities, other than capital stock: 

Bills Payable $ 50,000 

Accounts Payable 51,000 

To Universal Brewing Co. Stock $101,000 

1,010 Shares, par value $100, transferred to creditors in full payment 
of all debts as per agreement. 



To close the books of the Star Brewing Company. 

Old Capital Stock $400,000.00 

To Universal Brewing Co. Stock : . . . $121,200.00 

To Cash 22.22 

To Profit and Loss 278,777.78 



$400,000.00 

Final Profit and Loss Account, Star Brewing Co. 

Assets $301,000.00 Consolidated Stock and Cash 

Shrinkage in values from Young Co $ 22,222.22 

Old Capital Stock to Close 

Books . . 278.77778 

Loss Sustained 



$301,000.00 $301,000.00 



Consolidated Balance Sheet. 

Assets $1 ,800,000 Consolidated Stock- 
Bonus 200,000 Smith Co $1,222,200 

Young Co 555,600 

Star Co 222,200 



$2,000,000 - $2,000,000 

232 



PRACTICAL ACCOUNTING 



Problem No. 12. 
Cotton Mill Accounting. 



The A. B. C. Cotton M 
on January 1, 1912. A trial 
balances, before closing: 

DEBITS. 

Real estate •• $ 20,000.00 

Mill buildings 210,512.40 

Tenement houses 18,319.90 

Machinery and equipment 314,416.65 

Accounts receivable 4,300.00 

Cotton 82,319.20 

Superintendence 600.00 

Labor — opening, picking, card- 
ing . • • 5,100.10 

Labor — spinning and spooling 7,810.16 

Labor — weaving, day work... 3,010.20 

Labor — weaving, piece work.. 10,416.20 

Labor— finishing 1,869.74 

Labor — cloth-room 765.00 

Mill supplies 11,011.30 

Yard and watch 512.19 

Fuel 3,019.20 

Wages — engineer and firemen. 415.50 

Power purchased 920.90 

Building repairs 196.20 

Machinery repairs 17.20 

Tenement repairs 44.90 

Salary of officers 1,800.00 

Office salaries '. 600.00 

Stationery and office supplies. 320.25 

Telephone and telegraph 60.20 

Insurance 2,845.50 

Depreciation expense 6,000.00 

Interest 1,500.00 

Prepaid freight on sales 1,605.50 

Commissions on sales 4,737.68 

Discount on sales 1,966.56 

$717,012.63 



ill Company began its manufacturing operations 
balance at March 31, 1912, showed the following 



CREDITS. 

Bills payable 

Waste, bagging and ties. 

Wages accrued 

Tenement rents 

Accounts payable ....••. 

Cloth sales 

Reserve for depreciation. 
Capital stock 



.$ 80,000.00 

1,419.20 

1,619.20 

760.90 

. 28,888.05 

. 98,325.28 

. 6,000.00 

. 500,000.00 



$717,012.63 



The cotton record showed cotton purchases for the quarter of 705,841 
pounds (invoice weights) with claims in for shortages in amounting to 
2,714 pounds. Cotton account — as shown by the ledger — includes a charge 
of $3,100.00 to cover a loss on cotton futures in that amount. 

The inventories at March 31, 1912, were as follows: 

Cotton 101,707 pounds 

(Market value, at this date, was 13 cents) 

Cotton in process 165,545 pounds 

(No undue accumulation of stock was found at any stage of process.) 

Finished product (cloth) 56,590 pounds 

Supplies (at cost) $4,300. 10 

Fuel (at cost) 1,61 1 .25 

Waste (at market value) $4,300. 10 

Value of prepaid insurance was 2,425 . 30 

Prepaid interest on notes payable 214 . 60 

Accrued taxes were estimated at 710 . 20 

Cloth production 366,420 pounds. 



233 



C. P. A. QUESTIONS AND ANSWERS 

From the foregoing information prepare : (a) Manufacturing and 
Profit and Loss accounts for the three months ending March 31, 1912; 
(b) Balance sheet at March 31, 1912; (c) A summarized statement of the 
average cost per pound of finished product for the three months ended 
March 31, 1912. 

Cotton and Its Production. 

Cotton is a product of the sub-tropical, tropical or warm temperate 
climates. It is one of the plants having filaments or threads attached to 
their seeds. In a cotton plant these filaments occur in bunches and in a 
form in which they are readily twisted together into threads, thus forming 
the raw material from which various textile fabrics employed in clothing 
are manufactured. The fibres are peculiarly fit for weaving, since they are 
ready for spinning without any previous chemical or mechanical prepara- 
tion. This is owing to the fact that the cotton filaments are spirally curved 
so that when twisted they cling together and form a thread of considerable 
strength. 

The Cotton Plant 

It is shrub-like in form and grows from two to four feet in height with 
stalks branching extensively. The flowers are white or pale. yellow, or 
cream colored the first day. They darken and redden on the second day 
and fall to the ground on the third or fourth day, leaving a tiny boll 
developed in the calyx. This boll develops and enlarges until maturity, 
when it is somewhat like a hen's egg in size and shape. In this boll are 
contained the seeds and lint, the products of commerce. Cotton in this 
country is usually planted from about the middle of March until the middle 
of May and matures early in the fall. These plants produce a number of 
cotton bolls or heads, which mature anywhere from August until the frost 
attacks them ; it is then gathered, ginned, and compressed in bales of about 
500 pounds each. In this way it is transported to the factories in various 
sections of the country. There are several varieties of Cotton Plants, but 
the two main ones are: The Sea Island and Upland. 

The Sea Island or "long fibre" cotton is grown on the sandy islands 
near the southeastern coast of the United States, and is employed mainly 
for spool cotton and fine muslins. Cotton fibres are from J / 2 to \ l / 2 inches 
in length. Nature provides in the seed that this annual plant may be per- 
petuated, and out of this seed in all directions grow a number of fibres 
which become the cotton lint of commerce. When the soil is in readiness 
the seeds are planted either by hand or by a planter which drops the seeds 
in continuous rows, so that there are no missing hills. When the tender 
cotton plants are a few inches out of the soil, choppers are sent in to thin 
them and cut out the weeds. The plants are left from 12 to 20 inches 
apart and the rows are from 3 to 5 feet apart. The cultivation requires 
considerable work and must be done from 3 to 5 times during the season, 
depending upon the nature of the land and the kind of weather. 

Upland cotton is a shorter and more woody fibre, cultivated in the 
interior of the southern part of the United States. It forms a very large 
percentage of the cotton grown in the United States, the Sea Island cotton 
being a very small percentage. 

234 



PRACTICAL ACCOUNTING 

The great portion of the cotton crop is picked by hand, mostly by 
negroes, who gather the crop at an average of 75c per 100 pound's. It is 
then stored in the barn or cotton house until ginning time. 

The Cotton Gin 

This is a machine for the separation of fibre or lint from the seeds. 
Before this machine was invented by Eli Whitney in 1792, the seeds had 
to be separated from the lint by hand. These machines are local concerns, 
sometimes run by farmers themselves or by corporations or business men 
in the neighborhood ; in 1909 there were 26,669 cotton gin establishments 
in the United States. The farmer hauls the seed to the gin in an open 
wagon, from which the suction tubes suck up the cotton, where it is 
received by the carrying belts which distribute it along the saws from 
which the lint goes to the compress and the seed back to the wagon bed. 
This requires only a few minutes, so that both the fibre and the seed are 
soon on their way home again. 

The bales of cotton are surrounded by a coarse covering, held 
together by iron bands. An important factor in the movement of cotton 
is the cotton exchange, the leading exchanges being at Liverpool, New 
York and New Orleans. 

These exchanges facilitate the trade of buying and selling cotton and 
provide a means for facilitating the dealings and options of futures. The 
contracts for options are so called because the cotton contracted for is 
delivered at the option of the seller at any time during the month for 
which it is sold, and they are called futures because as a rule the contracts 
traded in are those which have a delivery of the cotton at some future 
period. The purchase or sale of about 100 square bales is made at a stated 
price, and payment is to be made at some specific future period. 

Cotton Seed 

Seed cotton, when gathered from the open bolls, contains about Yz 
lint and 2 /i seed. A few years ago these seeds rotted at the gin or were 
washed away in rivers, but it has been said that today cotton may be 
raised for the seed alone at a profit to the cotton grower. One ton of 
cotton seed will produce the following: 27 pounds of linters, which the 
gin failed to take from the seed ; 841 pounds of hulls, used for fuel and 
for feed for live stock ; 732 pounds of meal, and 280 pounds of crude oil. 

The meal is used for fertilizing and feed purposes, being rich in 
protein, and especially popular as a feed for beef and dairy cattle. It is 
injurious to pigs. It contains more nitrogeneous material than any other 
vegetable product grown. 

The crude cotton seed oil, when pressed from' the seed, is then refined, 
the refined oil being known as "summer yellow" and sometimes as "butter 
oil." It is generally used in the manufacture of oleo and butterine, and 
sometimes used as an adulterant to butter itself. This yellow butter, 
when subjected to cold, becomes a product known as "salad oil," which 
is used for cooking, dressing and other purposes. It is extensively mixed 
with olive oil, and it is said that the greater part of the so-called olive oil 
used in this country is composed of high-grade "summer yellow." This 
indicates the value and popularity of the cotton seed. 

235 



C. P. A. QUESTIONS AND ANSWERS 

The Manufacture of Cotton Goods. 

Cotton was first spun by hand 1 by the use of distaff and spindle. At 
first these were held in the hands; afterward they were used in connection 
with the revolving wheel. James Hargreaves of England invented the 
spinning jenny, by means of which several spindles could be operated 
simultaneously but a later invention was a machine that could be used 
in factories which made possible a great increase in the production of 
cotton yarns, and this industry with that of the weaver, especially after 
the invention of the power loom, gave birth to the modern factory in 
which all the different operations necessary for making cotton cloth, 
muslins, calico and cambric were carried on. 
Spinning 

It is the art of twisting fibrous substances, such as cotton, into strands 
or yarn fitted for weaving or for thread or rope making. To form such 
strands, two operations are' quantities of fibre in a continuous manner, 
and (2) Twisting material so drawn out to give it coherency and strong- 
resisting powers. 

The spinning frees the fibres of extraneous matter, and lays them side 
by side in level, parallel order, and pulls them out in a continuous strand 
of uniform thickness, thus attenuating the strand or sliver to the quantity 
required to form the yarns desired. During the process a strong current 
of air blows the dust and dirt out of the cotton. As the fibre goes through 
the machine two cylinders revolve at high speed, whose surfaces are 
studded with many teeth ; these teeth seize the separate flocks of fibre 
and carry them around to form a broad, uniform teazed mass, which is 
called a "lap." It successively goes through several processes until the 
yarn is completely spun and the strand wound around the cops or cones. 
Weaving 

Is the art of forming a web or cloth by the intersecting of two distinct 
sets of fibres, threads or yarns. The one set of yarns, which pass in a 
longitudinal direction from end to end of the web is called the "warp" ; 
the yarn which crosses and intersects the warp is called the "weft." In 
the simplest operation, it is necessary to pass one set of threads trans- 
versely through another set, divided into two series, working alternately 
up and down, so as to receive the transverse threads in passing and inter- 
locking them, forming thereby a united surface of the threads. 

The warp thread is divided into two equal sets by raising up every 
alternate one, and inserting between them a smooth rod of wood. This 
separation takes place before the final fixing of the ends of the threads to 
the cloth-beam, because, previous to that, each thread must be passed 
through a small eye or mail in a perpendicular thread called the heald. 
There are always two sets of healds in the simplest form of loom, and 
the threads of the warp are divided alternately by the mails of each heald, 
so that if one head is raised it lifts every alternate thread of the warp, and 
if the other is depressed it pulls down the opposite set; the united action 
opens a space between the two sets of warp-threads and through it is 
thrown the shuttle which carries the weft ; when the weft has passed 
through, the healds are reversed, and the lower warp-threads now become 
the upper ones. 

236 



PRACTICAL ACCOUNTING 

At each side is a -shuttle box, in either of which the shuttle rests when 
the loom is not in operation. The shuttle is usually made of boxwood, 
its ends shod with iron. It contains the bobbin, on which the yarn or 
thread is wound, the end of the yarn passing through a hole in the side of 
the shuttle. Between each shed the shuttle is projected along the shutttle- 
race between the shed-warp from shuttle box to shuttle, and the beating 
up of the thread left by the shuttle completes one pick of the loom. When 
colored patterns are being produced, a number of shuttles corresponding 
to the varieties of weft must be used, and a compound shuttle box contain- 
ing as many compartments as there are kinds of wefts is required. 

Power Loom 

The ordinary hand loom, while fully exemplifying all the principles 
of weaving, is now, for nearly all purposes, susperseded in most mills by 
the power loom. Automatic weaving was substantially the invention of 
the Reverend Edmund Cartwright. 

By degrees various adaptations and accessories were added to the 
loom, which enormously increased its efficiency, until it attained that swit- 
ness and certainty of action, and that power of producing all variety and 
quality of, work, which now characterize it, and go to make it the most 
marvelous of all mechanical combinations. The whole of the complicated 
series of motions is invariably derived through the crank-shaft which 
revolves under the web. 

Loom Mounting 

This embraces a number of necessary preliminary operations, and 
includes in the case of warps, the warping, sizing, beaming, healding and 
sleying of the yarn. Warping consists in bringing together and arranging 
in parallel order the threads required for the breadth of web to be formed. 
Sizing or dressing consists in treating the threads with a glutinous or 
pasty compound to give them increased compactness and tenacity. Beam- 
ing is spreading the warp uniformly over the warp-beam, and . rolling it 
around the beam in a regular manner. Healding or drawing-in is the act 
of drawing the warp threads through the mails or loops in the heald-shaft. 
After being drafted through the healds, or heddles, the warp is passed 
between the splits or dents of the reed, carried over the breast beam, and 
the ends attached to the piece-beam, and the operation of weaving may be 
begun. 

Weaves 

With two shafts of healds in the loom it is possible only to produce 
a plain web, and no variation of pattern can arise except from the intro- 
duction of stripes by the use of colored warps or of checks by using also 
different colored wefts. With three shafts a simple twill can be produced, 
in which the weft flushes or passes over one end and under two warp- 
threads alternately, thereby producing a kind of diagonal furrow, which 
runs from edge to edge of the cloth. With four shafts many combinations, 
regular and irregular, may be formed, the simplest and most common of 
which is known as the cassimere twill, in which two weft-threads flush 
over and under two warp-threads alternately in a diagonal direction. 

sot 



C. P. A. QUESTIONS AND ANSWERS 

Cotton Waste and Flocks 

Cotton mill waste is the by-product derived from the cotton in its 
various processes through the mill. Each pound of cotton before it 
becomes finished cloth loses on an average of about 15 per cent, in visible 
and invisible waste. The invisible waste is lost through a slight evapora- 
tion of moisture in the cotton during the process of manufacture. The 
visible waste is of two kinds, hard and soft. Hard waste, which has been 
made on spinning and subsequent machines, and which bears a slight 
twist, and soft waste, which includes that part of the fibre rejected by all 
machines up to the spinning frame (sand not considered, as it is no value). 

Hard waste may be re-worked by having the cotton torn up and the 
twist taken out by a machine. It is largely used also for wiping machinery. 

Cotton waste is made into a number of products. As a filling for 
cotton blankets, flannels, cheap trousers, carpets, and towels it is utilized, 
and as both warp and filling in the making of sacks, dish-rags, scrub- 
cloths, wadding, jewelry packing, etc. 

Flocks are short fibres removed from cloth during the process of 
finishing, known as napping. 

EXHIBIT A. 
Cotton Account (Based on Average Cost Price) 
Showing quantity and cost of Raw Cotton Purchased and Used during 
Three Months ended March 31, 1912. 

Average Cost 
Dr. Pounds Value per pound 

Purchases during period, net 703,127 $79,219.20 $0.112667 

(Shortage of 2,714 pounds deducted) 
Cr. 
Less inventory, March 31, 1912 t 101,707 11,459.02 0.112667 

Balance, Cotton put into process during 

period 601,420 $67,760.18 $0.112667 

Deduct : 

Output or Production of finished 

cloth during period 366,420 41,283.44 0.112667 

Amount 'of stock in process 235,000 

Less : Inventory of stock reported 

in process on March 31, 1912... 165,545 18,651.53 0.112667 

Shortage, waste, visible and invisible... 69,455 $ 7,825.21 $0.112667 
Note. — Refer to Exhibit D, Summarized Statement of Costs, for dis- 
tribution of waste over finished cloth and goods in process. 

Summary of Poundage. 

Cotton put into process 601 ,420 pounds 

Production of cloth 366,420 

Inventory still in process 165,545 531,965 pounds 

Shrinkage in process 69,455 pounds 

(Loss by shrinkage, $7,825.21) 

238 



PRACTICAL ACCOUNTING 

EXHIBIT B. 
Manufacturing Account. 

For Three Months Ended March 31, 1912. 
Stock consumed in manufacturing (601,- 

420 lbs. at .112667), being total cotton 

put into process (including waste of 

69,455 lbs. or $7,825,21), per Exhibit A $67,760.18 

Direct Labor Costs : 

Superintendence $ 600.00 

Opening, picking, carding 5,100.10 

Spinning and spooling 7,810.16 

Weaving — day work 3,010.20 

Weaving — piece work 10,416.20 

Finishing . . . . •. : 1,869.74 

Cloth room labor 765.00 

$29,571.40 

Other Manufacturing Costs: 

Mill supplies used. . $ 6,711.20 

Yard and watch 512.19 

Fuel used 1,407.95 

Wages, engineer and firemen 415.50 

Power purchased 920,90 

9,967.74 

Maintenance Charges : 

Building repairs $ 196.20 

Machinery repairs 17.20 

Depreciation expense 6,000.00 

Insurance 420.20 

Taxes 710.20 

7,343.80 

Total manufacturing charges $46,882.94 

Less: 

Income from sales of waste, bagging 

and ties $ 1,419.20 

Inventory of above on hand 214.60 1,633.80 45,249.14 

Total Production Cost of finished cloth 

and work in process 113,009.32 

Deduct : 

Inventory of Cotton in process, 165,545 

lbs. at .177744 29,424.63 

Balance, Cost of finished cost $83,584.69 

Summary of Cost. 

Total pounds cloth produced 366,420 

Cost per pound of cloth 2281 1 1 cents 

239 



C. P. A. QUESTIONS AND ANSWERS 

EXHIBIT C. 

Distribution of Manufacturing Charges. 

Between Finished Cloth and Cotton in Process. 
Manufacturing charges to be divided as per Manufacturing Ac- 
count, Exhibit B $45,249.14 

The finished cloth is clear through process. The cotton in pro- 
cess is half way through. Apportionment of charges must 
then be 2 to 1 per unit of each ; that is 

Cloth production, 366,420 X 2 = 732,840 

Cotton in process, 165,545 X 1 = 165,545 

Total apportioning product 898,385 

Then the cost per pound of manufacturing is: 

732,840 
Cloth production, X 45,249.14 or 36,911.10 

898,385 

165,545 
Cotton in process, X 45,249.14 or 8,338.04 

898,385 
Note. — It is assumed that the stock in process is half way through, or 
will average thus, since we are told that there is no undue accumulation of 
stock at any stage of the work. 

Distribution Rate, per pound : 

Cloth— $36,911.10 div. by 366,420 equals .100734 per lb. 
Process— $8,3^8.04 div. by 165,545 equals .050367 per lb. 

EXHIBIT D. 

Summarized Statement of Costs. 

For Three Months Ended March 31, 1912. Pounds Value 

Raw cotton poundage consumed 601,420 $67,760.18 

Less cotton in process 165,545 

Less production poundage 366,420 531,965 59,934.97 

Waste, visible and invisible 69,455 7,825.21 

Cost of cotton in finished cloth $ 41,283.44 

Cost of cotton still in process 18,651,53 

Cost of waste, visible and invisible 7,825.21 

Total cost of cotton used $ 67,760.18 

Manufacturing costs amount to 45,249.14 

Total production costs $113,009.32 

Poundage finished' of cloth and of cotton still in process on 
which to base average costs is 531,965 pounds. 

240 



PRACTICAL ACCOUNTING 



Average cost of cotton per pound of cotton put in process 
($59,934.97 div. by 531,965 lbs.) 

Represented value of waste per pound (cost of waste $7,825.21 
div. by 531,965) 

Average cost of cotton in the average pound of product and 
cotton in process, being 366,420 lbs. cloth and 165,545 lbs. in 
process ($67,760.18 div. by 531,965) 

Manufacturing expenses per pound of finshed cloth ($36,911.10 
div. by 366,420 lbs.) 



.112667 
.014710 



.127377 
.100734 



Total cost of finished product, per pound 

Cotton in Process. 

Average cost per pound of cotton in process , 

Represented value of waste per pound 

Manufacturing expenses per pound, per Exhibit C. 

($8,388.04 div. by 165,545) 



.228111 



.112667 
.014710 
.050367 



Cost per pound of cotton in proces. 



177744 



EXHIBIT E. 
Trading Account. 
For Three Months Ended March 31, 1912. 
Sales of Cloth (309,830 lbs. at .317352) . . . 
Deductions : 

Cost of Cloth Production $83,584.69 

Less : 

Finished product on hand, March 31, 1912 

56,590 lbs. at .228111) 12,908.80 



$98,325.28 



Production cost of cloth sold $70,675.89 

Selling Expenses : 

Prepaid freight on sales $ 1,605.50 

Commissions on sales 4,737.68 

Discounts on sales 1,966.56 8,309.74 



Total Selling Costs 

Gross Trading Profit. 



78,985.63 
$19,339.65 



Summary. 

Average sale price of cloth per pound 317352 

Less selling expenses per pound 026820 



Net income from sales per pound 290532 

Less cost of sales per pound 2281 1 1 



Gross Profit on sales per pound 062421 

241 



C. P. A. QUESTIONS AND ANSWERS 

EXHIBIT F. 

Profit and Loss Account. 

For Three Months Ended March 31, 1912. 

Credits. 

Gross Trading Profits $19,339.65 

Tenements rents 760.90 

Total Credits $20,100.55 

Debits. 

Salaries of officers $ 1,800.00 

Office salaries 600.00 

Stationery and office supplies. 320.25 

Telephone and telegraph 60.20 

Interest 1,285.40 

Tenement repairs 44.90 

Loss on cotton futures 3,100.00 7,210.75 

Net Profit for Period $12,889.80 

EXHIBIT G. 

Balance Sheet, A. B. C. Cotton Mill Co. 

March 31, 1912. 

ASSETS. LIABILITIES AND CAPITAL. 

Current Assets: Current Liabilities: 

Accounts receivable $4,300.00 Taxes accrued . . .$ 710.20 

Inventories: Wages accrued .. 1,619.20 

Finished product. .$12,908.80 Bills payable 80,000.00 

Cotton in process. 29,424.63 Accounts payable . 28,888.05 

Raw cotton on hand 

at cost 11,459.02 

Mill supplies 4,300.10 

Waste, bagging and 

ties 214.60 

Fuel 1,611.25 



59,918.40 



Total Liabilities $111,217.45 

Capital and Profits : 

Capital stock . . . .$500,000.00 
Net Profit 12,889.80 



Deferred Charges: 
Interest prepaid . . 
Insurance prepaid. 



214.60 
2,425.30 



Co.'s Net Worth. 



512,889.80 



Total current assets 
Fixed Assets: 

Real Estate $ 20,000.00 

Mill buildings ... 210,512.40 
Tenement houses. 18,319.90 
Machinery and 

equipment • . . . 314,416.65 



2,639.90 
$66,858.30 



Total $563,248.95 , 

Less reserve for de- 
preciation 6,000.00 

Total Fixed Assets 557,248.95 



Total 



$624,107.25 



Total 



$624,107.25 



Summary- 
Total Current Assets $ 66,858.30 

Total Current Liabilities 111,217.45 



Balance, Working Capital none 



242 



PRACTICAL ACCOUNTING 

Comments. 

This question is interesting, and it is obvious that to answer it satis- 
factorily, one should have some knowledge of the cotton industry and of 
the manufacture of cotton cloth products. For this reason extended 
explanations are given under the sub-title "Cotton and Its Production." 
The manufacturing period covered was only three months, and since there 
were no inventories on hand in the beginning with which to cope, matters, 
were therefore less complicated. We are asked for (a) Manufacturing 
Trading Account, and Profit and Loss Account for the period under 
review, and (b) a Balance Sheet at the end thereof, March 31, 1912; also 
for (c) a Summarized Statement of the average cost per pound of finished 
product. In order to arrive at the manufacturing costs and cost per pound 
of the finished product requires considerable figuring; and this is especially 
true because of the fact that there is cotton in process and no process cost 
given. If this cotton had been given a value, it would be very easy indeed 
to obtain the manufacturing cost of the finished product, but since the 
process cost is not given we can assume from the wording of the problem 
that it is one-half completed. We must therefore determine the relation- 
ship between the finished and partly finished product and then apportion 
the manufacturing charges accordingly. The completed cloth must bear 
only its equitable portion. Upon the assumption that the stock in process 
is half completed it is safe to charge each unit with one-half as much of 
the cost as would be charged to the finished unit. Therefore the distribu- 
tion of costs over the finished and unfinished cotton product must be in 
the proportion of 2 to 1 of each unit or pound of cotton produced. We 
see that the production consists of 366,420 pounds of cloth and 165,545 
pounds of cotton in process over which the manufacturing costs are dis- 
tributed, as seen in Exhibit C. It is not assumed that this basis will result 
in a true distribution, but it seems to be the safest plan under the informa- 
tion placed at our disposal. The North Carolina examiners have done 
wisely in emphasizing the necessity of the study of cotton manufacturing, 
but since the distribution of manuafcturing costs to work in progress is 
not fully established it would seem advisable to state the percentage that 
should be added. This saves the candidate much time, labor and worry. 

By referring to Exhibit A, it will be seen that the raw cotton pur- 
chased and the raw cotton on hand are both taken at the average cost 
price of the cotton, .112667 cents per pound. This exhibit shows also the 
cotton put into process, the poundage still in process, the poundage of 
finished cloth, and the shrinkage or waste both visible and invisible. The 
"visible waste" has reference to the cotton waste, bagging and ties that 
may be disposed of as by-products, while the "invisible waste" has refer- 
ence to the shrinkage due to elimination of moisture, oil, etc. It is proper 
that the cost of shrinkage, which in this example amounts to $7,825.21, 
should be distributed as a production cost. This has been done as will be 
seen in the accompanying exhibits. All income from the sale of waste is 
required as a deduction from the manufacturing costs, but good reasons 
could be cited for placing this income in the profit and loss account. 

We are told that the market value of cotton at the date of closing 
was 13c per pound, but in working the problem this is ignored since it is 

243 



C. P. A. QUESTIONS AND ANSWERS 

poor policy to take profits before they have been earned. The cost price 
established is .112667 cents per pound and this has been used in inven- 
torying the cotton on hand since it is the true average cost of raw product. 
To value the cotton at the market price would inflate the inventories, 
unduly increase the profits for this period, and result in a corresponding 
increase of production- costs in the succeeding period. Cotton mills 
usually work by the periods of three months each. The average purchase 
price of the raw cotton is used in valuing the inventory since it is more 
convenient than to determine the varying cost price of the different lots 
of cotton bales purchased. This is particularly true when there is a large 
supply of cotton packed in the warehouse and some of it has been on hand 
for several months. So long as a careful account is kept of the number 
of bales and the weight of cotton placed in the warehouse, and the cotton 
removed therefrom, it is an easy matter to determine the poundage of 
cotton still therein. The value of such poundage may be taken at the 
average cost price. In a small mill where the cotton supply is in like 
proportion it might perhaps be well to ascertain the exact number and 
cost of the bales in stock, in which case the exact cost of the particular 
lot on hand could be ascertained. The average price may in some cases 
be lower than the cost price and in others higher, but in the whole it 
averages itself satisfactory; the safe rule in inventorying, however, is to 
take either the cost or the market price, which ever may be the lower. 
On the other hand, if it were not for the undesirability of anticipating 
profits and disarranging of manufacturing costs, there might be no objec- 
tion to inventorying raw stock at the market price on the date of closing. 

It will be seen that the depreciation account has a debit of $6,000.00 
with a corresponding amount in the reserve for depreciation account, thus 
indicating that an adequate amount for the depreciation of properties is 
written off monthly or quarterly. The loss of $3,100 on cotton futures 
has been entered in the profit and loss account, but the circumstances 
underlying it might be such as to justify its addition to the raw cotton 
account and as a manufacturing charge. 

The various exhibits show clearly the manner of illustrating the 
results of the problem, but it must be kept in mind that this solution with 
its accompanying explanations is more exhaustive than would be required 
on an examination. The time limit is too short for so much detail. There 
is some duplication of work in the exhibits and more details than might 
be justified, but this is done to provide a clearly stated lesson. The reader 
is referred for further information on Cotton Mill Accounting to various 
articles which have appeared in the Journal of Accountancy. Mr. Joel 
Hunter, C. P. A., of Atlanta, Ga., contributed a very excellent article on 
"Cotton Mill Accounts" to the issue of August, 1913, and another to the 
issue of December, 1912, on "Cotton Seed Oil Mills and Their Accounts." 
The Journal of April, 1912, contained another excellent article on "Cotton 
Mill Accounting" by G. G. Scott, C. P. A., of Charlotte, N. C, a member 
of the board of examiners in that state. Additional information can be 
gotten from Government Reports and Schedules, and especially from the 
exhaustive report on Cotton Manufacturing presented to Congress in 1912 
by the Tariff Board on Schedule I of the Tariff Law. 

244 



PART TH REE 



Auditing 



COMPLETE SET OF AUDITING QUESTIONS FROM MINNESOTA 

EXAMINATION, 1912. 

1. State the purposes of an audit. To what extent should an audit 
deal with accounting system? With bookkeeping system? 

2. Distinguish between the "continuous" and the "completed" audit, 
stating the advantages and disadvantages of each. 

3. Describe the method of verifying cash on hand at the close of the 
period under review. 

4. Discuss "the best method of auditing cash receipts." 

5. Discuss "the best method of auditing cash payments." 

6. How would you audit a payroll? 

7. What special matters should be investigated in the audit of cor- 
porate books? 

8. What different considerations govern the valuation for balance 
sheet purposes of "fixed" and "current" assets? 

9. What is the best procedure in verifying the existence and value 
of land, buildings, stock-in-trade, investments in stocks and bonds, 
plant and machinery, work-in-progress? 

10. Discuss "the proper method of treating discounts, freight and 
haulage on goods or equipment purchased." On goods sold. 

11. Discuss "the limitations of an investigation of a business on be- 
half of a projected purchasing company." To what extent would 
fraud by employes of the vendor bear upon the subject? 

12. In what respect would an investigation of a business on behalf of 
a retiring or deceased partner differ from one on behalf of a 
projected purchasing company? 

13. Discuss "the extent of the auditor's certification." 

14. Discuss "the proper method of presenting the condition and earn- 
ings of a holding company which owns from 75 to 100 per cent of 
the stock of a number of subsidiary corporations." 

15. State the special features which pertain to the audit of the books 
and accounts of a building and loan association. 

16. State the special features which pertain to the audit of the books 
and accounts of a street railway company. 

17. State the special features which pertain to the audit of the books 
and accounts of a fire insurance company. 

245 



C. P. A. QUESTIONS AND ANSWERS 

18. A mercantile concern sustains a partial loss by fire. The books 
are modern except no cost accounting is incorporated. The end 
of the fiscal year is December 31, when a physical inventory is 
taken ; the fire occurred in October and was evidently a two-thirds 
loss, with full insurance. While the adjusters are at work you are 
called in to satisfy the firm as to their loss, so that they may be 
prepared for discussion with the insurance companies. 

Outline your procedure and state how you arrive at the actual 
loss. 

Answer to Question 1. 
An audit may be required for various reasons : 

(a) As a matter of precaution to insure promptness in work, to pre- 
vent possible errors or carelessness, and to prepare certified statements for 
the directors. 

To certify to the balance sheet and to the financial condition as shown 
thereby. 

To adjust careless and unskillfully kept accounts and to suggest im- 
proved methods. 

To detect suspected defalcation or irregularities. 

To enable certification of a financial statement for presentation to 
bankers to secure loans. 

To enlighten a prospective purchaser as to condition and earnings. 

To determine gross cost, net profit or averages as may be desired. 

It may be at the instance of the president or other officer of a com- 
pany, or of the directors or the stockholders, or of a partner in the case of 
a partnership, or of the creditors of the court, or by a prospective purchaser. 

Audits are frequently provided for in the corporation's by-laws. In 
Canada the laws require that annual audits be made. 

The books and accounts of churches, clubs and other organizations are 
also subject to audit for similar reasons. 

(b) The scope and extent of the audit requested will largely de- 
termine how far it will deal with the accounting or bookkeeping system. 
If by accounting is implied the caption and allocation of accounts in the 
balance sheets and subsidiary statements, this will probably necessitate 
such arrangements of facts and figures as would seem to the auditor most 
clear and logical to the persons for whom they are prepared, and he would 
suggest such changes as would be appropriate ; and if by bookkeeping is 
meant merely the books, general and subsidiary, a competent auditor would 
naturally suggest such changes as would simplify or amplify the results to 
the improvement of the system in use. As a rule, however, the auditor in 
conducting an audit is not supposed to concern himself with the accounting 
svstem or methods of bookkeeping. 

Answer to Question 2. 

(a) A continuous audit implies the regular employment of an auditor 
from period to period, (say monthly), and permits the employment of less 
skilled bookkeepers, as their methods can be supervised and directed into 

246 



AUDITING 

the proper channels by the auditor's supervision. A further advantage lies 
in the fact that comparison with the audit previously made calls attention 
to many features which might not be evident in a first audit. There might 
be a disadvantage in the probability that a continuous audit would be less 
thorough, as habit in most cases begets confidence, which is not always 
justified. It has the advantage, however, of keeping the employes up-to- 
date in their work and impresses them with the desirability of accuracy. 
A disadvantage lies perhaps in the possibility of changes being made in 
figures passed upon by the auditor during one of his many audits, since 
there is little likelihood of his going back over audited work. In that case 
the annual statement could contain irregularities without much chance of 
detection. 

(b) A completed audit is more often for a specific purpose and there- 
fore brings out more clearly that for which it is instituted as a search for 
a lost article will more likely result in its discovery than a general clearing 
up. The "completed" job means one that is finished completely at one 
time, usually at the end of the year. - In this way everything comes under 
the auditor's scrutiny at one time and is completed without any possibility 
of changes in results or substitution of assets. 

As a general toning up and control of the accounting methods the com- 
pleted audit is not so effective as the continuous, as impressions and sug- 
gestions are soon forgotten unless there is in the mind of the bookkeepers 
the expectation that all or any of their records will again be brought under 
the eye of the same auditor. 

Answer to Question 3. 

If the Imprest system of petty cash is used, the cash and cash items 
should be counted, and the cash items, if any, authorized by some one in 
authority. The balance of the petty cash record should agree with the petty 
cash drawer, while the payments credited to the Treasurer must agree with 
the receipts which have been given to the Treasurer, and with the stubs 
of the Treasurer's check book or, better still, with the checks themselves. 

The Treasurer's cash is in the bank and the balance should be obtained 
from the bank. His check book balance or bank record should be recon- 
ciled with the bank's balance by the addition of outstanding checks, and 
also made to agree with the balance in the cash book. Current cash not yet 
deposited must, of course, be closely compared. 

If no separate petty cash system is in vogue, the cash and cash items 
must be added to the check book balance to prove with the cash book bal- 
ance, the check book balance being reconciled with the bank balance as 
above. Bank discounts, collections, interest or charges must, of course, 
have been entered upon his cash book and check book to effect an agree- 
ment with the bank's balance. Of course, in order to verify the accuracy 
of cash, an audit of the receipts and payments should be made and this 
would involve an examination of discounts deducted from Dr. payments 
to see if they were approximately correct. Also the examination of vouch- 
ers for all payments and in any case where these are not produced the 
entries should be investigated until their validity was clearly established. 

247 



C. P. A. QUESTIONS AND ANSWERS 

Answer to Question 4. 

In auditing receipts we must determine whether all receipts have been 
accounted for, and, if so, what has been done with them. Theoretically, at 
least, the best system of keeping cash receipts which includes currency, 
checks, bank drafts, money orders, etc., is to deposit the total of all receipts 
each day in the bank and to make all payments by means of checks. The 
bank's record of deposits in this way keeps a tally on the cash receipts day 
by day and renders an audit both easy and rapid. If only a part of the 
receipts are deposited each day and the remainder retained for the pay- 
ment of petty expenses or other obligations, then the bank balance and not 
the deposits is used and this bank balance added to the current cash unde- 
posited will verify the total cash balance as shown by the books. Of 
course, as in all systems, difficulties will creep in. Thus A may be at once 
an Account Receivable for $100 and an Account Payable for $50 and may 
remit the difference, in which case the usual and most convenient way 
would be to credit A in the receipts with the $100 and to charge him in the 
payments with $50, which will, however, make the receipts $50 more than 
the deposits recorded by the bank. To avoid this it would be necessary to 
transfer the Account Payable account to the Account Receivable, which 
might be undesirable as for statistical purposes they are better kept apart. 
Where possible, statements of their accounts should be mailed to customers 
by the auditor and the balances approved by them, and if by their protests 
it should appear that receipts have been held out or held over, the deposit 
tickets should be obtained from the bank and the items compared with the 
cash book entries to ascertain if the checks have been deposited on the day 
received. 

Answer to Question 5. 

If all receipts are deposited, all payments must be made by checks and 
the payments may be verified by the cancelled checks and by comparison 
with the Accounts Payable balances, while the invoices thus credited should 
be examined to see that they have been properly vouched and entered. 

When all receipts are not deposited all payments except very small 
amounts (of which memorandums should be filed) should be covered by 
voucher, and where vouchers are not found such payments should be in- 
vestigated. The cash book additions should always be checked and the 
carried forward figures examined. Void checks should be cancelled and 
should remain attached to the stubs. 

Answer to Question 6. 

No bookkeeper or cashier should make payments of any kind without 
authorization, general or specific, and should have receipts or vouchers cov- 
ering all disbursements. 

This is equally true of pay roll (wages or salaries) whether receipts 
are taken upon payment or not. The voucher in this case is the time slip 
or pay slip from the foreman or time clerk. 

The auditor should submit to the foreman or manager the pay rolls 
paid on several occasions in order that they may detect any names or 
amounts which should be investigated, and several of the time slips taken 

'248 



AUDITING 

at random should be scrutinized to see if the extensions are correct ; the pay- 
roll footings should be checked and the totals compared with the entries in 
the cash book. 

In a cost system the total wages of given periods should be compared 
with the total wages allocated on the various cost sheets, to which must 
be added the unproductive labor apportioned to various accounts by the 
bookkeeper, and it is this unproductive labor which should be more care- 
fully considered. 

Answer to Question 7. 

By corporate books is taken to mean the books of record, consisting of 
the Stock Ledger, the Certificate Book and the Transfer Book, by-laws and 
minutes of meetings, etc. These should be examined to see that the official 
acts have not exceeded the authority stipulated in the Charter and by-laws. 

It must be noted that the stock issued and outstanding agrees with the 
original authorization, as recorded in the general books ; also that dividends 
have been declared out of earnings and paid to the rightful owners of 
shares. 

Answer to Question 8. 

The fixed assets of one business may be the current assets of another 
and vice versa. Thus horses, although they are never still, are generally 
considered as fixed assets ; but in the case of a horse dealer they are his 
stock in trade and come under the heading of current assets. 

Fixed assets refer to capital investment useful or necessary to the con- 
duct of the business or productive of revenue, and the considerations as to 
their valuation in the balance sheet consists of: 

Their cost, whether purchased, manufactured or otherwise acquired; 

Their selling value at forced sale, in the regular course of events, or 
under special conditions ; 

Their fire value, which would be the cost of replacement in their pres- 
ent depreciated condition ; 

Their replacement value, which might be more than their fire value, 
as their loss might necessitate new and more expensive equipment ; 

Their offset value, by which is meant the book value, less the mort- 
gage, reserve or the deductable credit account; 

Their depreciated value, by which the account has been written down 
or a reserve created, and whether too much or too little depreciation has 
been allowed ; 

Their book value, by which a secret reserve may be maintained or 
which, for other private or personal reasons, a stated amount is recorded. 

Current assets represent the working funds and realizable assets of a 
concern including cash, accounts receivable, stock in trade, etc., and the 
consideration as to their valuation in the balance sheet are as follows: 

Their cost, whether purchased, manufactured or acquired; 

Their selling value under ordinary conditions; 

Their depreciated value ; 

Obsolescence of stock in trade ; 

Their appraised value, and by whom they have been appraised; 

Cash is the most liquid and unchangeable in value of all assets; 

249 



C. P. A. QUESTIONS AND ANSWERS 

The probable proportion of uncollectable accounts must be considered 
in accounts receivable. 

Assets which are controlled or held by bankers or others to secure the 
payment of obligations must be so noted as they are not available for the 
general creditors or stockholders. 

Answer to Question 9. 

It is not enough to see the land and the buildings and to assume that 
the ownership is complete. The deeds should be examined and the county 
records searched for a verification of title. This examination will disclose 
encumbrances if any exist. 

Tax receipts should be examined. 

The inventory of stock in trade, if accepted from written records, 
should be gone over carefully and the computations and footings proved 
and the persons in authority who took or certified to the inventory should 
be noted in the report. Care should be exercised to see that goods not 
invoiced are omitted and that goods delivered have been deducted, that 
the values are taken at cost and not at selling prices, and that the over- 
head charges on the unsold goods do not include administration or sell- 
ing expense. 

Certificates of stocks, bonds, etc., should be carefully examined, or 
if they have been turned over to the bankers as collateral for loans, the 
bank's receipts therefor.should be examined. Coupon bonds must have all 
undue coupons attached, and interest may, if desired, be taken as an asset. 

Plant and machinery often include good will (which is really a sep- 
arate asset), and its valuation is hard to accurately determine. In some 
cases additions to plant are charged off to production and the plant main- 
tained in its full efficiency and no depreciation written off. In others, the 
additions are capitalized and a systematic depreciation is allowed, the 
latter method having the more general approval. 

Work in progress should be taken at its cost in labor and material, 
plus direct factory expenses and the correct proportion of overhead charges. 
If a cost sytem is installed the cost sheets provide this information, other- 
wise the results will be obtained largely by estimate. 

Answer to Question 10. 

Discounts on goods purchased may be deducted from purchases, giv- 
ing the net cost of the purchases, or they may be treated as profit derived 
from the prompt settlement of accounts payable, and credited to Profit 
and Loss. For trade discount, the former method is always preferable. 

Discounts on goods sold may be deducted from sales, giving the net 
sales, or may be treated as a charge against profits to induce prompt 
settlements, some favoring one method and some the other. If small, 
a good practice is to charge to Profit and Loss. Freight and haulage 
inward is part of the gross cost of materials purchased, while freight and 
haulage outward (if not charged to the customers) is a delivery or selling 
expense to be charged against the gross trading profit. 

Freight and haulage on equipment purchased may properly be cap- 
italized (added to the cost) as it is a part of the cost of installation. 

250 



AUDITING 

Answer to Question 11. 

An investigation on the part of a projected purchasing company- 
would be largely limited by the demands of the selling company. The 
bookkeeping or accounting methods would not be under examination 
so much as the net realizable value of the available assets less the obliga- 
tions and liabilities. Their worth as a going concern and their relation 
to the' average profits during past years and the amount of good will 
with which the proposed purchaser is to be charged. The aggregate and 
average profits for a term of four or five years should be considered and 
fully verified. Fraud on the part of employes of the vendor before the 
deal was consummated would no doubt warrant the purchaser in voiding 
the agreement or in making a deduction from the payment, whereas if 
the settlements were completed probably he would have to recover his 
loss through the courts. Innocence on the part of the vendor would not 
relieve him from the responsibility for the acts of his agents or employes. 

Answer to Question 12. 

In the case of deceased partner the business must be closed and the 
profits divided according to the terms of partnership. The accountant 
must determine whether the retiring or deceased partner's account is 
correct by a detailed audit. The remaining partner may continue alone 
or buy out the interest from his partner's estate, whereas in selling a 
business to another it is the ownership of the business which is sold, irre- 
spective of the amount of the profits on hand, and there need be no cessa- 
tion of business or settlement of its affairs to that date. An investigation 
in the former case would aim, therefore, to determine the exact value of 
the deceased partner's interest in the business at his demise, whereas in 
the latter case the value of the going concern and the probable future profit 
will form the basis and chief object of the investigation. 

Suggested steps in an investigation for a retiring partner: . 

An audit of the accounts for the current year, and perhaps for two 
or three years. 

Make the necessary adjustments, if any. 

Prove the accuracy of the sales account for the period under review. 

Determine the accuracy of the gross profits for the same period. 

Analyze the net profits and determine their accuracy. 

Adjust the capital account after all changes have been made. 
Show adjusted Trading and Profit and Loss account for past year, if 
necessary. 

Adjust balance sheet for former year, if necessary. 

Make Trading and Profit and Loss account for the current year to 
date of dissolution. 

Make balance sheet for the current year. 

Answer to Question 13. 

The Auditor's Certificate is a certification of the results of the audit 
as set forth in the statements to which it is attached. The extent of the 
certificate depends upon the scope of the audit, and anything short of a 

251 



C. P. A. QUESTIONS AND ANSWERS 

complete audit should be qualified in the certificate, as the auditor should 
not certify to anything which has not come specifically under his inspec- 
tion. Suggestions for improvement in the system or management may 
be incorporated in his report, if one is made, or else verbally. If important 
adjustments have been made or suggested by the auditor, they should 
be in the report, while if desired for publication or for presentation to 
bankers for credit, a short form of certificate may be appended to the report. 
The following form of certificate may be used : 

Philadelphia, January 4, 1914. 
I have examined the books and accounts of the ABC Company and 
I hereby certify that they are correct and in accordance with the balance 
sheet as presented above, and that the profits are as stated therein. 

J. L. BROWN, 

Auditor. 

This is usually attached to the balance sheet and profit and loss state- 
ment. It should be borne in mind, however, that a report and a certifi- 
cate are two different things. The report is a more extended review of 
the company's affairs with the auditor's findings. 



Answer to Question 14. 

A holding company is not the owner of the assets of the subsidiary 
companies which it may operate, and whose stock it controls, nor is it 
liable for their obligations except as a stockholder. The assets of the 
holding company are the shares of stock owned, and its source of profit 
consists of dividends declared by the underlying companies. 

The holding company may be organized by the major interests of the 
subsidiary companies; for example, the company is incorporated with a 
capital of $1,000,000. The entire stock is taken by the incorporators in 
exchange for $100,000 in cash and $900,000 of stock in companies which 
they represent. The underlying companies retain their legal status, but 
their control passes to the holding company. 

Sometimes it is formed on a cash basis, and the stocks are purchased 
at a figure much below par, in which case the stocks are entered at par 
and credited to cash and surplus, or else charged to Investment at the cost 
price. 

The earnings of the holding company are, as above stated, the divi- 
dends from the subsidiary companies, against which are charged the 
administration and other expenses, the balance being the net profit of 
the said company. Borrowings from or loans to the controlled companies 
are treated on the books of the holding company as they would be in the 
case of independent companies. The reports of the several companies may 
be appended to the holding company's report, but are independent of it. 
Sometimes, however, as suggested in the question, when the underlying 
companies are fully controlled the condition and earnings of all are con- 
solidated in one balance sheet and one statement of earnings. 

252 



AUDITING 

Answer to Question 15. 

In the books of a building and loan association a General Ledger is 
not always kept, but it is better to do so, in which case it would contain 
the following accounts : 
Stock Loans, 
Real Estate Loans, 
Investments, 
Cash, 

Real Estate, . 
Furniture and Fixtures, 
Dues, 

Dues in Arrears, 
Interest in Arrears, 
Notes Payable, 

Surplus or Fund for Contingent Losses, 
Profits (undivided), 
Income and Expenses, 
Expense, 
Interest Credit, 
Interest Debit, 
Salaries, 
Advertising, 
Rent, 

Attorney Fees, 
Fines, 
Premiums, 

Entrance and Transfer Fees. 
The Income Account into which the Income and Expenses are closed 
at the end of the fiscal year is the summary account, and the balance of 
this account, being the net profits for the year or period, is transferred to 
the Profits account. This account is charged with the profits taken by 
withdrawing members, or completed series, but is never closed, as ihe 
profits added from time to time are never completely exhausted by with- 
drawals, as withdrawals do not take with them their full shares of accum- 
ulated profits, the balance belonging to the unmatured series. Other books, 
papers, etc., are as follows : 

Members' Ledger or Roll Books. 

Loan Register, 

Cash Book (columnized), 

Blotter, 

Treasurer's Cash Book, 

Receipt Book, 

Journal, 

Order Book, 

Application for Loan, 

Application for Withdrawal, 

Transfer of Collateral for Loan, 

By-Laws and Minutes, 

Check Book. 

253 



C. P. A. QUESTIONS AND ANSWERS 

A careful inspection and comparison of at least the principal books 
and accounts should be made, the by-laws should be studied and the min- 
utes read. The cash on hand and in bank should be verified and the receipts 
therefor from the Treasurer to the Secretary. Stock and real estate loans 
should be verified and all entries relating thereto carefully compared. All 
deeds, mortgages and collateral should be on hand and available, an evi- 
dence that the taxes and insurance is paid on the properties, should be 
required. This method of apportioning profits and its application should 
be looked into and the bonds of officers examined, and it should be deter- 
mined that the published statements are correct and in harmony with the 
books. This is important. 

Answer to Question 16. 

A Street Railway Company is a public service corporation and in many 
states it must conform its accounts to the requirements of the Public 
Service Commission of the state in which it operates. The capital assets 
and equipment must be shown at their cost of acquisition, extensions and 
improvements being shown separately. Depreciation on plant and equip- 
ment should be based on the estimated life of the property. This matter 
is usually laid down in the rules of Public Service Commissions. Main- 
tenance and other expenses must also be charged according to their rul- • 
ings. Interest on bonded debt and fixed charges must not be confused 
with maintenance or administration expenses. With large companies it is 
often the case that many of the lines are leased, while the improvements 
and extensions to them are owned by the parent company. Pleasure parks 
are often operated at a loss, which is made up by the increased travel on 
the road. Statements showing the cost per mile, the cost per passenger, the 
cost of free transfers and the proper division of such costs, the partial 
capitalization of strike losses, the division of cost of bridges with the rail- 
roads and municipalities, paving and other improvements, and the inter- 
company loans and passing of collateral are features which should have 
the careful attention of the auditor. A careful audit must be made of the 
balance sheet and statement of earnings. 

Answer to Question 17. 

The auditor of a Fire Insurance Company can only certify to a com- 
plete audit after examination and comparison of almost all the accounts and 
records of the company, which would include: 

Daily reports of risks written and of alterations and additions thereto. 

Premium registers, in which the premiums are charged to the agent 
or to the insured direct. 

The accounts with the agents and the balance due. 

Income from rents, investments and other sources. 

Bonds and other securities in its possession or in the hands of Trus- 
tees. 

The commission and agents' expense account. 

The check book, cash and bank accounts. 

Unearned premiums and delinquent premiums. 

254 



AUDITING 

Loans and bills receivable. 

Unpaid and disputed losses. 

Capital, reserve and surplus. 

The important consideration in an audit is that the premiums received 

during the year are not all income for the period, as the risks are written 
for one, three and five-year terms, and from them must be deducted the 
cost of amounts reinsured and the unearned premiums on the policies 
which extend beyond the period. Other sources of income are rents, in- 
terest, dividends, etc., while the expenses are composed of losses by fire, 
agents and other commissions, maps, salaries and other expenses. 

The auditor must .see that the reserves are calculated according to the 
rules of, and are sufficient to meet, the requirements of the Insurance 
Department, to which it must report, and that such reports are in accord- 
ance with the facts and in harmony with the records. The auditor should 
also see that risks are entered upon the underwriter's maps, summarizing 
the peculiar features of fire insurance auditing to which the auditor should 
give attention, including the accounts with agents, fire losses, unearned 
premiums and investments. 



Answer to Question 18. 

It is evident that the loss is equal to the value of entire stock on hand 
at the time of their fire, less the value of the stock unhurt or partly dam- 
aged which remains, and the two essential points therefore are the original 
value of the stock and its present value. The books of this concern being 
modern, there is a recorded inventory of the stock on hand January 1, 
to which must be added all purchases, January to October, freight and 
cartage inward, duties, royalties and other charges which contribute to the 
gross cost of the goods, and from this total must be taken the goods sold 
and delivered to the date of -the fire, at cost, which can only be determined, 
where no cost system is kept, by deducting the average percentage of 
profit for past years from the selling price. This is not necessarily 
accurate, but the best that could be done under the circumstances. The 
result obtained is the cost value of goods on hand before the fire. 

The value of the goods after the fire may be largely obtained by the 
stock numbers and reference to the invoices, while the damage sustained- 
will be a matter of opinion and appraisement which will have to be ad- 
justed, but the insured will put his own valuation on them in putting in 
his loss claim. It is stated that the loss was a two-thirds loss with full 
insurance. If it were known that the loss were exactly two-thirds it would 
only be necessary to find one of the above values and calculate the loss 
therefrom. Full insurance to the amount of loss would not cover the 
insured under the 80%, or the 90%, or the full insurance clauses, but full 
insurance on the value of the stock would of course protect them fully.' 
Under the 80% clause the insured is co-insurer for the difference between 
the total amount of insurance he carries and 80% of the value of the prop- 
erty insured. 

255 



C. P. A. QUESTIONS AND ANSWERS 

THE AUDITOR'S REPORT. 

AN AUDITOR'S report should be clear and to the point, and be as 
brief as possible, but in this answer it is purposely made larger than 
the problem requires in order to show the manner of including explana- 
tions and suggestions. The exhibits shown are not presented as model 
forms, but for the purpose of giving information in the simplest way, and 
the explanations contained in the report should be sufficiently clear without 
additional comments. 

Problem No. 1. 

You are retained by the Appliance Manufacturing Company to audit 
its accounts for the year ending June 30, 1912, and to prepare the balance 
sheet, trading and profit and loss accounts for the year. 

You are expected to write a brief report of not less than 200 and not 
more than 400 words, dealing with your audit, showing its scope, and dis- 
cussing any matters relating to the accounts which may seem to you to be 
of interest. 

The company was incorporated on July 1, 1911, and its balance sheet 
on the date showed as follows : 

Balance Sheet July 1, 1911. 

ASSETS. LIABILITIES. 

Cash $ 12,680.92 Bills payable $ 10,901.07 

Bills receivable 2,200.00 Book accounts payable 15,617.04 

Book accounts receivable 19,501.33 Capital stock 200,000.00 

Merchandise material on hand 9,554.43 Reserve for suspended ac- 

Machinery and tools 129,355.01 counts receivable 1,019.16 

Furniture in office and store.. 11,762.18 

Expenses of incorporation. . . . 500.00 
Book accounts receivable in 

suspense 1,983.40 

Good will 40,000.00 



Total $227,537.27 Total $227,537.27 

The inventory of merchandise and material amounts to $12,453.90. 
You discover the following facts not disclosed by the books : 

(a) Invoices not entered. 

Maryland Steel Co., dated June 15, 1912, for steel $165.00 

York Safe and Lock Co., dated June 1, 1912, for office safe. , 110.00 
Vulcan Coal Co., dated May 20, 1912, for coal : 42.50 

(b) The company made in its shop for its own use five machines, in 
the construction of which it used material costing $525.00, and the mechan- 
ics' wages amounted to $750.00. 

The Trial Balance of June 30, 1912, was as follows: 

Trial Balance. Dr. Cr. 

Cash $ 5,259.80 

Notes receivable 5,048.75 

Notes payable $ 16,922.81 

Sales 240,172.56 

Material and supplies 52,088.94 

Sundry merchandise bought 2,869.80 

Selling wages 22,400.04 

256 



AUDITING 

Manufacturing wages 88,317.70 

Miscelaneous receipts 549.20 

Office salaries 5,802.50 

Manufacturing expenses 15,353.16 

Office expenses 2,496.14 

General selling expenses 3-.491 .50 

Advertising 2.064.33 

Light, heat and power 3,121.97 

Rent of factory 4,000.00 

Rent of office and store 1 ,860.29 

Repairs to machinery, etc 845.78 

Delivery expenses 2,201.01 

Interest and discount 738.40 

Commissions 5,089.30 

Machinery and tools 132,817.24 

Dividend (paid January 10, 1907 ) 6,000.00 

Furniture, etc., in store and office 12,016.45 

Book accounts receivable 58,935.20 

Book accounts payable 18,311.16 

Expenses of incorporation 500.00 

Reserve for suspended accounts 320.59 

Good will 40,000.00 

Capital Stock 200,000.00 

Accounts receivable in suspense 2,316.84 

Totals $475,955.73 $475,955.73 

The Report. 

To the Directors and Stockholders, Appliance Manufacturing Company, 

Philadelphia, Pa. 
Gentlemen : — 

In compliance with your instructions I have made a careful audit of 
the accounts of your company for the fiscal year ended June 30, 1912, and 
present herewith exhibits and statements which give detailed information. 

It will be seen by Exhibits A and B that the year's business has been 
good, and that the net profits after allowing for depreciation bad debts, 
etc., amount to $28,421.63. This is equivalent to 14.21% on the capital 
stock, and about 12% on the sales. Exhibits C and D show the financial 
condition of your company at the present time, and a comparison of same 
with that of one year ago. It will be seen that there is a working capital 
of $182,421.63, including capital and undivided profits after deducting the 
good-will. There are, however, a few important points in connection with 
the accompanying exhibits and concerning the accounting system to which 
I wish to call your attention. 

Subdivision of Accounts. 
It is advisable that your accounts be arranged so as to show the cost 
of manufacturing separately from the cost of trading, so that correct state- 
ments may be made giving the exact cost chargeable to each department. 
This has already been partly accomplished, but further divisions are neces- 

257 



C. P. A. QUESTIONS AND ANSWERS 

sary. The charges and costs for various purposes should be indicated so 
clearly that there would be no doubt as to their disposition. 

The same principle is true also of general expenses, which should 
clearly indicate the amounts chargeable to various departments. Rent of 
office and store, for instance, should be subdivided, instead of being given 
in one amount. 

Material and Merchandise. 

The inventories at the end of each year should show the value of raw 
material on hand, at cost, the value of finished stock or merchandise at 
cost of production, and the value of goods in process, at cost of raw 
material plus accrued charges. This would permit the preparation of 
correct manufacturing statements showing the exact cost of producing the 
finished stock, and correct trading statements showing the direct cost of 
marketing the reference. The values placed upOn inventories were sub- 
mitted by your Directors. 

Items Omitted. 

I found invoices to the amount of $317.50 not entered on the books. 
Adjusting entries have been made, and they are now included in the proper 
accounts. Entry should be made for each invoice when received. 

During the year five machines were made in your shop for your own 
use, in the construction of which material costing $525.00 was used and 
mechanics' wages amounting to $750.00. Adjusting entries have been made 
for these, charging Machinery Account and crediting Manufacturing Ac- 
count. Production orders for factory use should be handled the same as 
orders for customers, and, when completed, charged to the proper account 
and credited to factory output. 

Book Accounts Receivable. 

The Accounts Receivable seem to be in keeping with the volume of 
business done, yet they are quite large and should be. closely watched. 

The plan of separating doubtful accounts from the good is commend- 
able, and I have taken the liberty of apportioning from profits 65% of the 
suspended accounts as a provision against losses. This is based on the 
proportion of failures from suspended accounts listed at the beginning of 
the year. 

Depreciation. 
I have allowed a depreciation of 8% on machinery and tools, based on 
the valuation at the beginning of the year; and 6% on furniture in store 
and office, on the same basis. The percentages selected are to be com- 
puted on the diminishing values at the end of each year. It would seem 
better to separate the tools from machinery account, since they do not 
depreciate in the same ratio. 

Incorporation Expenses. 

It will be seen that I have written off $200.00 of the incorporation ex- 
penses. It would be prudent to write the remaining $300.00 off at the end 
of the coming year. 

In conclusion I wish to express to the officers and bookkeepers my 
sincere appreciation of the courtesies extended during the course of the 
audit. Respectfully submitted, 

R. J. BENNETT, C. P. A. 

258 



AUDITING 

EXHIBIT A. 

Manufacturing and Trading Statement, June 30, 1912. 

Debits to Manufacturing. 

Inventories, July 1, 1911 $ 9,554.43 

Purchases material and supplies 42,699.51 

Wages paid 88,317.70 

Manufacturing expenses 15,353.16 

Light, heat and power 3,164.47 

Rent of factory 4,000.00 

Repairs to machinery 845.78 

Depreciation of machinery 10,348.40 

Total manufacturing charges $174,283.45 

Debits to Trading. 

Merchandise purchased $ 2,869.80 

Selling wages 22,400.04 

Selling expenses 3,491.50 

Advertising 2,064.33 

Rent of store — estimated 1 ,500.29 

Delivery expenses 2,201 .01 

Commissions allowed 5,089.30 

Total trading charges 39,616.27 

Total manufacturing and trading charges $213,899.72 

Less material and merchandise on hand 12,453.90 

Cost of goods sold $201,445.82 

Summary : — 

Sales for year $240,172.56 

Other income 549.20 

Machines for shop use, at cost. 1,275.00 

Total sales and machines made for own use. . . 241,996.76 

Total cost of sales 201,445.82 

Gross Profit for year $ 40,550.94 

EXHIBIT B. 

Profit and Loss Statement. 
Credits. 

Gross Profit from Trading $40,550.94 

General Expenses. 

Office Salaries $ 5,802.50 

Office Expenses - 2,496.14 

Interest and Discount 738.40 

Rent of Office 360.00 

Incorporation Expenses 200.00 

259 



C. P. A. QUESTIONS AND ANSWERS 

Reserve for above 7-1-06 1,019.16 

Suspended Accounts Written Off $1,339.75 

Excess of Losses over Reserve 320.59 

Reserve for Suspended Accounts, 65% 1,505.95 

Depreciation on Furniture and Fixtures, 6% 705.73 

Total Expenses for year $12,129.31 



Net Profit for year $28,421.63 

Summary : — 

Net Profit for year $28,421.63 

Dividends paid 1-10-07 6,000.00 

Profits undivided $22,421.63 

EXHIBIT C. 
Balance Sheet. 

ASSETS. 

Cash on hand $..5,259.80 

Notes receivable 5,048.75 

Accounts receivable 58,935.20 

Accounts receivable in suspense 2,316.84 

Merchandise and material on hand 12,453.90 

Machinery and tools on hand 134,092.24 

Furniture and Fixtures 12,126.45 

Incorporation expenses 300.00 

Good will 40,000.00 

Total Assets $270,533.18 

LIABILITIES. 

Notes payable $16,922.81 

Accounts payable 18,628.66 

Total Current Liabilities $ 35,551.47 

Reserve Accounts : — 

For depreciation on machinery and 

tools $10,348.40 

For depreciation on furniture 705.73 

For suspended accounts receivable. . 1,505.95 

12,560.08 

Capital Stock 200,000.00 

Undivided Profits: — 

Net profits for year $28,421.63 

Less dividends paid 1-10-07 6,000.00 

Balance, profits undivided 22,421.63 

Total Liabilities $270,533.18 

Note. — Excess of actual assets over actual liabilities, $182,421.63. 

260 



AUDITING 

EXHIBIT D. 
Comparative Statement of Assets and Liabilities. 



June 30, 
ASSETS 1911 


June 30, 
1912 Increase 


Decrease 


Cash . . 


$ 12,680.92 

2,200.00 

19,501.33 

1,983.40 

9,554.43 

129,355.01 

11,762.18 

500.00 

40,000.00 


$ 5,259.80 

5 048.75 

58,935.20 

2,316.84 

12,453.90 

134,092.24 

12,126.45 

300.00 

40,000.00 


2,848.75 
39,433.87 

333.44 
2,899.47 
4,737.23 

364.27 


$ 7,421.12 


Notes receivable 




Accounts receivable 




Accounts receivable in suspense 

Mdse. and Material 




Machinery and Tools 

Furniture and fixtures 




Incorporation Expenses 

Good will 


200.00 








S 227,537.27 


$ 270,533.18 


$ 42,995.91 




LIABILITIES 

Notes payable 


$ 10,901.07 
15,617.04 


$ 16,922.81 
18,628,66 




$ 6,021.74 


Accounts payable 


3,011.62 






Current Liabilities 


26,518.11 

1,019.16 
200,000.00 


35,551.47 

11,054.13 

1,505.95 

200,000.00 




Reserve Accounts :- 

For depreciation 


11,054.13 


For Suspended Accts 


486.79 


Capital Stock 








Total Liabilities 


227,537.27 


248,111.55 
22,421.63 


(Increase) 


20,574.28 


Undivided Profits 


22,421.63 








$227,537.27 


$ 270,533.18 


$ 42,995.91 


$ 42,995.91 



Problem No. 2. 

The following is a comparative balance sheet at December 31, 1910, and 
at December 31, 1911, presented to the Board of Directors of the Western 
Company at their meeting of January 5, 1912: 



Assets. 

1910 
12/31 

*Land $20,000 

Buildings 45,000 

Machinery and tools 86,000 

Horses, wagons and harnesses 10,500 

Patents 6,000 

Good-will 25,000 

Cash 28,300 

Accounts receivable 29,600 

Investments and bonds 

Inventory of goods in process 10,800 

Inventory of materials and supplies 6,750 

Agency investments 



1911 

12/31 

$25,000 

45,000 

89,000 

10,500 

6,000 

25,000 

10,300 

26,550 

15,000 

14,690 

10,300 

3,680 



$267,950 $281,020 



261 



C. P. A. QUESTIONS AND ANSWERS 

Liabilities. 

1910 1911 

12/31 12/31 

Bond and mortgage payable 1915 $ 20,000 

Notes payable $ 35,000 2,000 

Accounts payable 16,400 19,350 

Reserves for depreciation 2,500 6,750 

Discounts on bonds 1 ,000 

Capital Stock — 

Preferred 150,000 150,000 

Common 50,000 50,000 

Surplus 14,050 31,920 



$267,950 $281,020 



* Land increase due to appraisal based on rise of values of factory sites 
in the immediate vicinity. 

Together with the above balance sheet, there was submitted to the 
Board a statement of income and profit and loss showing the profits of the 
year 1911 to have been $22,120. The directors state to the auditor that in 
view of the decrease of cash and accounts receivable, of the absence of 
dividends and of the increase of capital liabilities, they are unable to ascer- 
tain what has become of the increased profits of the year. The auditor 
prepares and submits to the directors before the meeting is adjourned an 
account properly named, which is so arranged as to show clearly how the 
Western Company has applied such resources of the year 1910 as have 
been lost in 1911, and the resources and profits of the year 1911. 

Prepare the account submitted by the auditor. 

Comments. 

This question is one (the easiest) of three given in a recent C. P. A. 
examination in New York. Two of the questions were to be answered, 
and since only three hours were allowed it will be seen that this one was 
required to be completed in less than ninety minutes. The time limit is 
not at all unreasonable, because any candidate who is qualified to practice 
as an accountant should be able to complete it easily within the specified 
time. Indeed, candidates for accountancy honors should always time them- 
selves when answering problems and questions that have been used by 
examining boards, in order to accustom themselves to rapid work and to 
the preparation of solutions within reasonable time limits. This plan 
should be practiced and adhered to until the required work can be done 
within the limit of time selected. 

In the problem under review the comparative balance sheet and profit 
and loss statement were submitted to the board of directors and rejected 
by them as incomplete and unintelligible. The auditor therefore is required 
to readjust the statements during the session of the board and then submit 
the information desired by them. He must necessarily think and act 
quickly in order to submit the data asked for, but had he come to the board 

262 



AUDITING 

meeting fully prepared to give details and answer questions the delay 
would not have been occasioned. The auditor's duty is to have the state- 
ments so clearly arranged that they will exhibit the true conditions of the 
concern without much additional explanation, and yet collateral data should 
be at hand for submission to the client if desired by him. These details 
may or may not be included in the report, but they obviously ought to be 
available in the auditor's working sheets. We are told that the auditor 
submitted "an account properly named," in which he accounted for the 
decrease in resources, the increase in capital liabilities, and the disposition 
of profits. By comparing the surplus account and the amount of net profits 
for the year 1911, we find that they are not in harmony. Since no divi- 
dends have been paid, the year's profits added to last year's surplus should 
give the surplus for Dec. 31, 1911. On this basis the surplus should now 
be $36,170 instead of $31,920, as shown by the balance sheet. There is 
a difference somewhere of $4,250, which is found to be the amount allowed 
for depreciation reserve, thus indicating that depreciation had been taken 
out of surplus instead of having been charged against profits. We note also 
that the appreciation of real estate, $5,000, had been included in the profits 
for the year. The increase can hardly be considered part of the trading 
profits, but rather' a capital increase which should be credited to surplus 
account. By omitting from the profit and loss account this appreciation 
and including the reserve for depreciation, we find the trading profits for 
1911 to be $12,870, as shown by the accompanying adjusted statement. 
The surplus account is also shown in connection therewith. 

The account prepared by the auditor may be called Cash Account, as 
it more clearly reflects the increases and decreases than could be shown by 
any other plan of adjustment. It might even be called Adjustment Account 
or Increase and Decrease Account, but in any case the increases and de- 
creases must be exhibited in a manner that will be easily understood. The 
accompanying statements will exhibit a plan of adjustment, using the 
Cash Account as the main exhibit. By inspection it will be seen that the 
capital liabilities are increased by the issue of a bond and mortgage for 
$20,000. The proceeds of this loan, and other cash receipts, have been 
used largely to pay off outstanding promissory notes and to purchase in- 
vestment bonds, requiring together a payment of $47,000. This answers 
in part for the decrease in cash, and while other receipts and payments are 
recorded, they "are small in comparison with those already mentioned. In 
arriving at results a comparative balance sheet is of advantage for exhibit- 
ing increases and decreases, and while the problem does not call for this, 
it would form a part of the auditor's working papers. 



SfiS 



C. P. A. QUESTIONS AND ANSWERS 

CASH ACCOUNT. 

Statement of Receipts and Payments of Cash for Year Ended 

December 31, 1911. 

RECEIPTS. PAYMENTS. 

Balance Jan. 1, 1911 $28,300.00 Bond Investments, cost $14,000.00 

Accts. Rec. 1, 1, '11.. $29,600.00 Notes Payable 33,000.00 

Accts. Rec. 12, 31, '11 . 26,550.00 Agency Investments 3,680.00 

3,050.00 Machinery and Tools 3,000.00 

Cash Sales, less purchases, ex- Purchases for year: 

penses, ,etc 17,120.00 Materials and sup- 
Bond and Mortgage 20,000.00 plies $7,440.00 

Deduct: 

Amount owing on 

same 2,950.00 

■ 4,490.00 



Payments $58,170.00 

Balance on hand 10,300.00 



$68,470.00 $68,470.00 



Jan. 1, 1912, Balance on hand. .$10,300.00 

Summary of Cash. 

Balance January 1, 1911 $28,300.00 

Receipts during year 40,170.00 



Total Cash $68,470.00 

Payments for year 58,170.00 



Balance on hand $10,300.00 

Decrease in Cash during year $18,000.00 

Note. — The amounts shown above are not all true, as balances are 
given in some cases. The amounts representing purchases and sales are 
obviously only the adjusted balances and do not represent totals. This is 
likewise true of accounts receivable and payable. In opposite column an 
Adjusted Income and Profit and Loss Account is shown for the year ended 
December 31, 1911. 

EARNINGS. 

Profit from Trading, less all Expenses, as stated $22,120.00 

Deduct Appreciation of Real Estate 5,000.00 



Current Business Profit $17,120.00 

EXPENSES. 

Depreciation of Buildings and Machinery, transferred from Sur- 
plus Account 4,250.00 



Net Profit for Year $12,870.00 

Adjusted Surplus Account. 

Surplus, January 1, 1911 $14,050.00 

Net Profit for Year 12,87000 

Appreciation of Real Estate 5,030.00 



Balance, December 31, 1911 $31,920.00 

264 



AUDITING 

Problem No. 3. . 

Question in Auditing from the Final Examination of the Institute of 
Chartered Accountants of Ontario, 1912. 

A. B. C. Company, Limited. Capital Stock Common Authorized, 
$800,000.00. Bonds Authorized, $500,000.00. 

Statement of Assets and Liabilities, December 31, 1911. 

ASSETS. LIABILITIES. 

Cash on hand. . . .$ 1.465.00 Owing to Bank. .$ 65,650.00 
Accts. Receivable 287,670.00 Bills Payable ... . 94,500.00 
Merchandise .... 273,287.00 Bonds Issued. .. . 450,000.00 
Machinery and Capital Stock 675,000.00 

Tools 365,000.00 

Building 132,500.00 

Real Estate 241,328.00 

Investment in 

Capital Stock 

of X. Y. Z Co., 

Ltd., (1000 

shares, par val- At Credit of Prof- 

ue $100.00 each) 100,000.00 $1,401,250.00 it and Loss. . . . 116,100.00 $ 1,401,250.00 

Profit and Loss Account. 

To Bond Interest By balance at cred- 

for 1911 $ 27,000.00 it Dec. 31, 1910. .$115,500.00 

To Dividends for Bv Net Earnings 

year 1910 54,000.00 "f r0 m Trading for 

vear ending Dec. 

To Balance 116,100.0 $197,100.00 31,1911 81,600.0 $197,100.00 

The above tentative statements have been prepared at the close of the 
year in the office of the A. B. C. Company, Limited, of which you are the 
auditor. The following matters have been left to be dealt with by you. 

(1) An error of $10,000.00 resulting in the undervaluation of the 
Inventory of Merchandise on hand to this extent at the close of 
the year 1910 had just been discovered. 

(2) The Statement of the X. Y. Z. Company, Limited, shows undi- 
vided profits available which would warrant the Company in pay- 
ing a dividend of 20% on its Capital Stock. 

The Directors of the A. B. C. Company, Limited, therefore wish 
to incorporate in their Company's Statement and take credit for 
an amount equivalent to 20% on the stock held in the X. Y. Z. 
Company, Limited. 

(3) A recent reliable valuation of the Company's Estate shows it to 
be worth at least $50,000.00 more than what it at present stands 
charged with in the books and it is desired that the statement 
show the Real Estate at this increased figure. 

(4) The bank holds as collateral to the amount owing to it a block 
of the Company's bonds amounting to $50,000.00 which are not 
included in the amount shown on Statement above and which by 
arrangement does not bear interest unless certain conditions arise. 
Assuming all else on Statements as originally prepared to be cor- 
rect, draw up revised Statements after making adjustments in 
such form that you would feel justified as auditor in certifying to. 

265 



C. P. A. QUESTIONS AND ANSWERS 

Answer and Comments : 
This question is from the final examination in Auditing given to candi- 
dates for the degree of chartered accountant. The points contained therein 
emphasize the fact that the auditor should be able to think and to act inde- 
pendently with respect to the records which he is called upon to examine. 
He should not be so narrow in his views as to antagonize the interests of 
his clients, nor should he be persuaded to pass upon things which his better 
judgment tells him are beyond the line of conservatism. There are times 
when he can decide important matters only after an examination of col- 
lateral evidence and by the investigation of facts closely related to the work 
under review. The auditor should always lean towards conservatism, and 
in case matters come up which are difficult to decide, he should keep on the 
safe side and as far away from the danger line as possible. He should not 
ignore any suggestions, advice and information tendered by the directors 
and employes of the company which he is serving, and yet he should not 
be persuaded to follow their suggestions if there is any reason to doubt the 
advisability of doing so. It is natural that the managers of a concern should 
be optimistic regarding the future of their business and be desirous of mak- 
ing as good a showing as possible. On the other hand, the auditor is a semi- 
public official who safeguards the interests of both the company, the stock- 
holders and the public by assuming an intermediate position, and he must 
therefore guard the interests of all concerned. It is his duty to see that the 
stockholders of a corporation are correctly informed as to the management 
and conduct of their interests. We shall now take up in order the points 
covered in the question. 

(1) This error of $10,000 in undervaluing the inventory at the closing 
of 1910, resulted in the understatement of the profits for 1910, and their 
overstatement to the same extent for 1911. It is obvious that in order to 
present a true profit and loss statement, certain adjustments should be 
made in order that the profits of each year may be correctly stated. This is 
advisable on behalf of those interested in the company, and also for 
statistical and comparative purposes. While the amount is not large and 
might even be ignored in a company doing business on such large propor- 
tions, yet it does not seem wise to do so. When results are compared for a 
term of several years, it is most desirable that such yearly results should 
be reckoned on the same basis each time. The adjusting entry to be made 
in this case will depend upon conditions. If the accounts have not yet been 
closed for 1911, it will be an easy matter to make an entry debiting mer- 
chandise and crediting profit and loss account as of December 31, 1910, for 
$10,000. This would serve to correct the two accounts affected. In making 
this entry it is assumed that the balance of profit and loss account for 1910 
is standing as a credit, as in the case of undivided profits account. Profits 
remaining therein at the end of each succeeding year would be carried to 
the current profit and loss account for apportionment. If an Undivided 
Profits or Surplus account were kept the current profits would be carried to 
it and then apportionment of dividends made. 

If the accounts have already been closed it is apparent that merchandise 
account will show only the inventory of $273,287, and profit and loss ac- 
count the credit balance of $116,100. No matter what plan is followed these 

266 



AUDITING 

amounts will not be changed. The point at issue is to determine the exact 
profits for the year, and to make the profit and loss of each year show its 
correct status. We might re-open the accounts by debiting merchandise 
and crediting profit and loss as of December 31, 1910, for $10,000. Another 
entry would then be necessary debiting profit and loss and crediting mer- 
chandise as of December 31, 1911. This would bring each account to show 
its correct condition and thereby enable the bookkeeper or auditor at any 
future time to see very clearly what has been done. If journal entries are 
not to be made, then it is necessary to make a full explanation of the error 
in the journal; in that case a memo, should be placed in each account 
affected by the particular error and the adjustment set forth in the journal. 

(2) Here is a condition that the auditor must look into very carefully 
before making a decision. If the X. Y. Z. Company is an underlying com- 
pany it is evident that the directors of the A. B. C. Company would have 
control over its profits. In that case they may be able to give sufficient 
assurance that a dividend will be declared at the annual meeting which will 
take place soon. If the profits are ample to justify a 20% dividend and if 
they have been receiving regular dividends from the underlying company 
regularly in previous years, then it might be well to enter this one as divi- 
dends receivable. Before doing so, however, the auditor should make a 
careful investigation of the conditions in order to assure himself that the 
receipt of dividends is certain to take place. If dividends had been an- 
ticipated in previous years and then had been actually received, he would 
have a precedent to follow, providing the outlook at this time is equally 
as good. It does not seem as if dividends from the underlying company 
were received in 1911, which leads one to believe that they were entered 
if at all, as of December 31, 1910. This is a case wherein the auditor must 
exercise his best judgment in determining whether or not the directors are 
broad minded enough to desire a correct statement of results rather than 
the inflation of profits. In a company of this size it is apparent that the 
$20,000 will neither make nor mar its financial standing, therefore it would 
be a wise precaution to defer it until the dividend is actually declared. In 
any case, whether or not a contingent item of this kind is taken into the 
account, the auditor should draw special attention to it in his report, so 
that no one will be deceived thereby. The entry for bringing this $20,000 
onto the books might be a debit to dividends receivable and a credit to 
profit and loss with a full explanation of the circumstances. It is stated 
that the directors wish to incorporate this amount in the company's state- 
ment. If they are prudent business men and have every reason to believe 
that the amount will be received, the auditor might safely comply with 
their wishes and then add a foot note to the statement calling attention to 
the fact that the dividend had not yet been declared. 

(3) Since the revaluation of the company's real estate shows a per- 
manent increase of $50,000, the auditor can not dispute the reports sub- 
mitted by reliable appraisers. This amount, however, is a capital profit and 
should not be used for the payment of dividends; for that reason it would 
seem well not to place it to the credit of profit and loss. A good plan is to 
debit real estate and credit surplus account, or a special surplus account or 
even a special reserve account. In this question there is no surplus 

267 



C. P. A. QUESTIONS AND ANSWERS 

account, but that need not deter us from opening an account under that 
name. In the accompanying profit and loss statement, this item has been 
included in order that all the items of profits and surplus may be shown 
together. A part of the profits should now be transferred to surplus. The 
form of statement used is one approved by leading accountants of today, 
and even some of the large corporations show their inventory adjustments 
in a similar manner. 

(4) The company has an authorized bond issue of $500,000, of which 
$450,000 has been sold, while the remaining $50,000 is in the hands of the 
bankers as collateral security for a loan of $65,650. In reality the entire 
amount is issued and should be shown on the statement, but since the 
$50,000 are supposed to be treasury bonds and are merely held by the bank 
as collateral security, it is all right to deduct this amount from the aggre- 
gate issue. The amount of loan from the bank is represented in the loan 
account, and since it records the liability for which the bonds were given 
it is unnecessary to show a second liability. The bank loan may or may 
not be a long time loan, but in case of default in payment it is evident that 
the bonds may be sold for the satisfaction of the claim. If the bonds are 
sold it seems evident that the interest thereon will begin to run and have 
to be paid, but we can assume that so long as the bank loan is not in de- 
fault the interest will not accrue. In any case, a foot note should be made 
to the balance sheet drawing attention to the contingent liability of bond 
interest which may, under certain conditions, have to be paid. 

We are told to assume that all other accounts in the statements origi- 
nally prepared are correct. We have prepared the revised statements as 
suggested and have also made adjusting journal entries to show the man- 
ner of making the required changes. The auditor's work is certainly inter- 
esting, and the better qualified he is in every respect the better service can 
he render to his clients, and the more dependable will he be in safeguarding 
the interests of the public. 

THE A. B. C. COMPANY, LIMITED. 
Statement of Assets and Liabilities as on December 31, 1911. 

Assets. 
Current Assets : 

Cash on hand $ 1,465.00 

Accounts receivable, good 287,670.00 

Merchandise . . 273,287.00 $ 562,422.00 

Investments : 

Stock of X. Y. Z. Company, 1,000 shares at 

$100 $100,000.00 

♦Profits accrued on above 20,000.00 120,000.00 

Fixed Properties : 

Real estate $291,328.00 

Buildings 132,500.00 

Machinery and Tools 365,000.00 788,828.00 

Total assets owned by company $1,471,250.00 

2G8 



AUDITING 

Liabilities and Capital. 

Current Liabilities: 

Owing to bank, secured by bonds $ 65,650.00 

Bills payable 94,500.00 160,150.00 

Fixed Liabilities : 

Bonds issued and outstanding $450,000.00 

*Bonds held by bank as collateral for amount 

owing, $50,000.00 450,000.00 

Total liabilities owing by company. $ 610,150.00 

Net worth of company $ 861,100.00 

Made up as follows : 

Capital Stock outstanding $ 675,000.00 

(Authorized $800,000.00) 

Balance to credit of Profit and Loss 186,100.00 

Net Worth $ 861,100.00 

Note — *There is a contingent liability of interest on bonds held by the 
bank as security, since date of issue, in case certain stated conditions arise. 
A dividend of 20% on stock holdings is also assured but not yet declared. 

Profit and Loss Account, Adjusted as on December 31, 1911. 

CREDITS. 

By balance at credit December 31, 1910 $115,500.00 

Add profits for 1910, omitted because of un- 
dervaluation of merchandise inven- 
tory, Dec. 31, 1910, resulting in the un- 
derstatement of profits 10,000.00 

Correct Balance as of Dec. 31, 1910 $125,50O.qO 

Add earnings for 1911 : 

Net earnings from trading for year ended 

Dec. 31, 1911, per the books $ 81,600 

*From accrued profits on X. Y. Z. Company 

stock 20.000 

Total earnings for 191 1 $101 ,600 

Deductions from earnings : 

To inventory adjustment from 1910 $10,000 

To bond interest for 1911 27,000 

To interest on collateral bonds nil 37,000 

Net earnings — surplus for year 1911 64,600.00 

Profits available for apportionment 190,100.00 

269 



C. P. A. QUESTIONS AND ANSWERS 

Other Additions : 

Increase in value of real estate in accord- 
ance with appraisement 50,000.00 

Total Credits $240,100.00 

Dividends Paid: 

Dividend for year 1910, paid in 1911 54,000.00 

Balance, Surplus Profits, Dec. 31, 1911. . . . $186,100.00 

*A 20% dividend is assured but not yet declared — if passed this amount 
must be omitted. 

Adjusting Book Entries, December 31, 1911. 

(1) Profit and Loss, 1911 $10,000.00 

To Profit and Loss, 1910 $10 ; 000.00 

To adjust profits of 1910 that had been under- 
stated because of undervaluing inventory of 
merchandise. This results in the lessening 
of profits for 1911, which were overstated by 
this amount. 

(2) Dividend receivable X. Y. Z. Company 20,000.00 

To Profit and Loss 20,000.00 

For dividend of 20% on the holdings of X. 
Y. Z. Company stock, assured by the direct- 
ors of X. Y. Z. Company, but not yet de- 
clared. 20% of $100,000, our holdings. 

(3) Real Estate 50,000.00 

To Surplus (or Profit and Loss) 50,000.00 

For increase in value of real estate, per recent 
appraisement, entered per order of the board 
of directors. 

(4) Collateral Treasury Bonds 50,000.00 

To Bonds Payable 50,000.00 

To place on the books bonds to this extent 
given to the bank as security for the loan of 
$65,650. 

There is a contingent liability in respect to 
interest on these bonds payable by arrange- 
ment only in case certain conditions arise. 
Perhaps interest for one year on $50,000, 
$3,000. 



270 



AUDITING 

Problem No. 4. 

Report of Commissioner of Corporations. 

FOLLOWING is a trial balance of X Y Z Co. on January 1, 1912: 

DEBITS. CREDITS. 

Cash $ 8,400 Notes receivable, discounted. . .$ 25,000 

Labor 205,000 Reserve depn. real estate 10,000 

Royalties 20,000 Reserve depn. machinery 10,000 

Selling expense 50,000 Merchandise sales 1,000,000 

Mdse. purchases, to Jan. 1, 1912 600,000 Surplus 37,000 

Notes receivable 40,000 Capital stock 100,000 

Mdse. inventory, Jan. 1, 1911. . . 100,000 Interest earned 500 

Accounts receivable 100,000 Accrued pay roll 3,000 

Machinery 40,000 Accounts payable 20,000 

Real estate 60,000 Mortgage real estate 30,000 

Investments in other companies 30,000 Trust receipts issued under let- 
Interest paid 10,000 ters of credit 150,000 

Tax account 800 Notes payable 60,000 

Bad debts 1,600 

Manufacturing expense 150,000 

Discounts allowed 27,000 , 

Marine insurance 2,700 



$1,445,500 $1,445,500 



Inventory, January 1, 1912, was $200,000. 

On Merchandise imported under L/C for which trust receipts were 
given, it is found that $60,000 is on hand, $30,000 is represented by Ac- 
counts Receivable at face value of $55,000, and $30,00 has been sold and 
paid for. 

$20,000 of Investments have been pledged as collected for $35,000 
Notes Payable. 

Merchandise is bought on Net 30 days. 

Manufactured goods are sold on 3% 30 days, and all customers settle 
accordingly. 

Accrued Taxes not paid, January 1, 1912, were $400. 

Submit State of Condition, Working Account and Statement for Commis- 
sioner of Corporations. 

Comments on the Problem. 

The accompanying question from the Massachusetts examination of 
June, 1912, is from the paper on Practical Accounting and was required 
to be worked in three hours. The question is not hard and does not pre- 
sent any specially difficult points, though the details pertaining to im- 
porting, trust receipts and letters of credit are rather hard to interpret. 
A few of the terms used, also, seem to be peculiar to Massachusetts, as will 
be noticed by an examination of the question. The question calls for a 
"working account," which is practically a revenue or profit and loss 
account. It also asks for a statement for the Commissioner of Corpora- 
tions, which means an annual statement as required by every corporation 
doing business in Massachusetts. A "statement of condition" means 
a statement of assets and liabilities. All of the statements called for are 
shown herewith and an examination of them will indicate how the vari- 
ous items should be handled. 

271 



C. P. A. QUESTIONS AND ANSWERS 

Corporation Reports. 
In nearly every state, corporations doing business therein are required 
to make annual reports to some official designated by statute. In Massa- 
chusetts this official is called Commissioner of Corporations. Blank forms 
are usually furnished for that purpose and sometimes they are required to 
be filed in duplicate. Foreign corporations generally report on the same 
blanks as domestic corporations, though in some states a special blank is 
provided for their use, but it does not differ very much from the domestic 
form. In some of the states the reports are very elaborate, and though 
Massachusetts is fairly inquisitive, it is not equal in that respect to Penn- 
sylvania and some of the other states. The reports are required by law 
and must be filed on or before a given date, varying of course in the dif- 
ferent states. Some require that they be filed as of December 31, while 
others permit them to be filed within a given time after the company ends 
its fiscal year, whether in December, June or any other month of the year. 
Note that the accompanying Massachusetts report for the Commissioner 
of Corporations requires among other things a statement of assets and 
liabilities, also the names of the officers and directors. Another excellent 
requirement in Massachusetts is that every corporation whose capital is 
$100,000 or over, must have an auditor's certificate attached to the report, 
thus necessitating the employment of an auditor. This is indicated by 
the auditor's certificate shown in the accompanying report. The auditor 
must not be a bookkeeper, treasurer, or any other officer of the corporation 
whose report he has signed. This is undoubtedly an excellent requirement 
which some time may be required in all of the states. In addition to the 
state report a revenue report is required to be filed with the Department 
of Internal Revenue and on the net profits over and above $5,000 a corpora- 
tion tax of 1% is levied by the United States Government. 

Annual Tax. 

In most states all corporations are required to pay an annual tax on 
the amount of outstanding capital stock, and in some there is also an addi- 
tional filing fee. An annual tax or franchise tax is nearly always required 
of foreign corporations (those chartered in other states) in addition to the 
regular filing fees, and sometimes in addition to the license which is im- 
posed. The annual taxes differ in the various states. It must be kept in 
mind, however, that the annual corporation tax is separate and distinct 
from the regular property tax levied by municipalities on individuals and 
corporations. The annual franchise tax is imposed in Massachusetts, but 
the rate is adjusted annually to meet the state needs. The tax is computed 
upon a corrected franchise value ascertained as follows : 

The Tax Commissioner, from returns made by the corporation or "in 
any other manner," determines the market value of the stock and from 
that estimates its fair cash value on May 1 preceding. This is the fran- 
chise value, and from it is deducted the assessed value of real estate and 
machinery subject to local taxation, and any securities which are in the 
hands of an individual would be exempt from taxation. A further deduc- 
tion is made on the value of any corporate property paying taxes out- 
side of the state. It is upon the franchise value as thus corrected that the 

272 



AUDITING 

tax is levied. In no case, however, is the corrected franchise value to 
exceed 20% of the entire corporate property, nor shall the tax ever be less 
than 1/10 of 1% of the market value of the capital stock. The annual tax 
is required to be filed by the treasurer with the Tax Commissioner between 
May 1st and May 10th as of May 1st preceding. This gives in detail the 
information desired by the Commissioner in deciding upon the amount of 
tax to*be paid by each corporation, and must necessarily be exhaustive and 
include the names of all stockholders. 

Foreign corporations, before doing business in Massachusetts, are 
required to file with the Commissioner of Corporations a copy of their 
charter, certificate of incorporation and give full information pertaining to 
the company, sworn to by the treasurer, president and directors. The 
filing fee or license is $25, and every other certificate, including the annual 
report to the Secretary of the Commonwealth, is $5. An excise tax is 
imposed on foreign corporations of 1/100 of 1% of the par value of its 
assessed capital stock, as shown by its annual certificate of condition ; and 
local taxes paid on property in the state may be deducted and such excise 
tax is never to exceed $2,000. These details regarding Massachusetts taxes 
are taken from Overland's Classified Corporation Laws, published in 1907. 

The $20,000 of collateral pledged as security for the loan of $35,000 
should be indicated in the balance sheet in connection with the item of 
Investments or else as a footnote. Since manufactured goods are sold on 
3 per cent discount, it is safe to make allowance for this in the statement, 
but in doing so it is sometimes necessary to look back to the close of the 
previous month or the previous fiscal period to see whether or not it had 
been considered at that time. In a large corporation an item of this kind, 
unless it amounts to a considerable sum, is often permitted to overlap. It 
is best, however, that all accruals or allowances should be considered. In 
this solution the 3% discount is taken on the entire $100,000 of accounts 
receivable, but since the discount is allowed only on sales of manufactured 
goods it is evident that a distinction should be made. Apparently the 
imported goods were sold without undergoing any change, in which case 
the $55,000 now due from customers should be deducted from the accounts 
receivable and the remaining $35,000 considered as due from sales of man- 
ufactured goods. In that case the reserve for discount would be $1,350 
instead of $3,000, with a corresponding increase in the net results shown 
by the statements. In the event of this discrimination a closer division 
should be made between the manufacturing and trading accounts. The 
matter of depreciation has been omitted, but a consideration of an addition 
to the reserves would have been in order. Notes receivable under discount 
at the bank are shown as a deduction from notes receivable account, thus 
leaving a balance on hand of $15,000. Instead of deducting them in this 
way they are sometimes included among the liabilities ; indeed, they are 
often omitted from the balance sheet entirely and mentioned in a foot- 
note, in order that the contingent liability may not be overlooked. 

Importing Goods. 
The importing business and the numerous details connected therewith 
can only be touched upon briefly in this contribution. The importer either 

273 



C. P. A. QUESTIONS AND ANSWERS 

pays for the goods by sending a bank draft direct to the exporter or by 
permitting him to ship the goods subject to draft (bill of exchange), either 
sight or time. In some cases the bill of lading is attached to the draft and 
sent through a bank, and the draft must be paid before the bill of lading 
can be released. The method adopted depends largely upon the credit 
rating of the importer. 

Another plan of paying for imported merchandise is by commercial 
letter of credit issued by banks to their customers for sending abroad. 
The L/C may be purchased outright by the importer, but it is usually 
issued by the banker on the customer's credit an'd paid for after the goods 
have been received and sold. The letter of credit is a document issued by 
a bank for its customers in favor of the foreign merchant from whom the 
goods are purchased, authorizing him to draw on said bank or its London 
or Paris correspondent for a given amount. The draft is then paid by the 
European correspondent and sent on with bill of lading, consular invoice 
and insurance policy to the bank which originally issued the letter of credit. 
The importer then receives from his bank the bill of lading, at which time 
he either pays or "accepts" the draft or issues a trust receipt. At the time 
of issuing the letter of credit the bank receives from the importer a writ- 
ten agreement granting to the bank a lien of all goods engaged for impor- 
tation thereunder and pledging the goods as security for the full payment 
thereof. The bill of lading, as already stated, is received from the bank 
and a trust receipt issued in its favor for the amount of the indebtedness. 
The trust receipt is usually paid in installments as the goods are sold and 
paid for. In the meantime the goods are held in trust either by the 
importer himself or in some warehouse whose receipt is issued to the bank. 
If his credit is good he is permitted to take them himself and turn over 
the proceeds of sales as payment for the trust receipt, otherwise they are 
released to him from the warehouse only when a sale has been made. 

In the question under consideration the merchandise was evidently 
delivered over to the importer and his trust receipts issued to the bank; 
but since the outstanding trust receipts aggregate $150,000, there should 
still be in trust goods to that amount. Where are the goods ? As the 
merchandise is sold the avails thereof are paid over to the bank, though 
sometimes this is not done with any degree of promptness. We will 
assume, however, that the $30,000 sold and paid for has been turned over 
to the bank to liquidate trust receipts. That amount, then, is not to be 
considered further. The other $30,000 sold and not yet paid for, is still 
subject to the trust agreement, and as soon as it is paid for the required 
amount will be turned over to the bank and an equivalent of trust receipts 
cancelled. This still leaves $120,000 of trust receipts outstanding, and we 
are told that merchandise to the extent of $60,000 is on hand. There is 
still another $60,000 of merchandise represented by trust receipts that must 
be accounted for, which we will assume to be either in transit or in some 
bonded warehouse. Now, then, the inventory of January 1, 1912, should 
be increased to $260,000 in order to include the merchandise not yet re- 
ceived into stock. It evidently was entered up to merchandise account 
when the trust receipts were issued, and therefore should now be included 
in the inventory. This assumption may differ from that of the examiner 

274 



AUDITING 

who prepared the question, yet since the practice varies considerably we are 
justified in following the plan which prevails in the majority of cases; that 
is, of turning over to the bank the cash as it is collected from customers. 
We therefore have a net profit of $90,000 which seems out of proportion 
to the capital invested, yet in solving a question that is subject to different 
interpretations one must necessarily assume a basis and proceed accord- 
ingly. If the $30,000 received from cash sales has not yet been applied 
to the liquidation of trust receipts, then the net profit is reduced to $60,000 
and the goods in transit to $30,000. It is assumed, of course, that the 
inventory of $200,000 includes only the $60,000 of trust merchandise on 
hand. 

Analysis of Imported Merchandise Account Under Which Trust Receipts 

Were Issued. 

Total issue of trust receipts $180,000.00 

Redeemed from proceeds of cash sales 30,000.00 

Balance unpaid $150,000.00 

Represented by : 

Goods on hand $ 60,000.00 

Goods sold but not yet paid for 30,000.00 

Goods in transit or in bonded warehouse 60,000.00 

Merchandise inventory : 

Goods on hand $200,000.00 

Goods in transit or in bonded warehouse 60,000.00 

Total inventory $260,000.00 

EXHIBIT A. 
Statement of Condition, January 1, 1912. 
Assets. 
Current Assets : 

Cash $ 8,400.00 

Accounts Receivable 100,000.00 

Notes Receivable $40,000.00 

Less Notes Rec. Discounted 25,000.00 

15,000.00 

Merchandise Inventory 200,000.00 

Merchandise in transit and in bonded warehouse. 60,000.00 

Investments in other companies 30,000.00 

Total Current Assets $413,400.00 

Fixed Assets : 

Real Estate $60,000.00 

Less Reserve for Depreciation 10,000.00 50,000.00 

Machinery $40,000.00 

Less Reserve for Depreciation 10,000.00 30,000.00 

Total Fixed Assets 80,000.00 

Total Assets $493,400.00 

275 



C. P. A. QUESTIONS AND ANSWERS 

Liabilities and Net Worth. 

Accrued Liabilities: 

Accounts payable $ 20,000.00 

Notes payable 60,000.00 

Trust receipts 150,000.00 

Items Acrued, but not due: 

Pay roll $3,000.00 

Taxes 400.00 3,400.00 

Total Current Liabilities '. $233,400.00 

Mortgage on real estate 30,000.00 

Reserve for Discount 3,000.00 

Capital Stock $100,000.00 

Surplus : 

Balance Jan. 1, 1911 $37,000.00 

Net Profit year ended Dec. 31, 1911 

(See Exhibit D) 90,000.00 127,000.00 

Net worth of Company 227,000.00 

Total Liabilities and Net worth $493,400.00 

EXHIBIT B. 

Manufacturing Account for Year Ended December 31, 1911. 

Merchandise Inventory, Jan. 1, 1911 $100,000.00 

Merchandise purchased to Jan. 1, 1912 600,000.00 

$700,000.00 
Deduct : 

Merchandise Inventory, Jan. 1, 1912 260,000.00 

$440,000.00 

Labor 205,000.00 

Manufacturing Expense 150,000.00 

Marine Insurance 2,700.00 

Taxes Real Estate paid $800.00 

Taxes Accrued 400.00 

1,200.00 

Royalties 20.000.00 

Cost of Goods Manufactured $818,900.00 

EXHIBIT C. 

Trading Account for Year Ended December 31, 1911. 

Sales for year $1,000,000.00 

Deduct : 

Cost of Goods Sold as per Manufacturing Account 818,900,00 

$181,100.00 
276 



AUDITING 

Deduct : 

Selling Expense • 50,000.00 

Gross Profit carried to Profit and Loss Account .$ 131,100.00 

EXHIBIT D. 
Profit and Loss Account for Year Ended December 31, 1911. 

Gross Profit as per Trading Account. $131,100.00 

Interest earned 500.00 

$131,600.00 
Expenses and Charges: 

Interest paid '. $10,000.00 

Bad debts 1,600.00 

Discount allowed 27,000.00 

Reserve for Discount 3,000.00 

41,600.00 

Net Profit for the year $ 90,000.00 

Surplus January 1, 1911 $ 37,000.00 

Surplus December 31, 1911 $127,000.00 

Statement for Commissioner of Corporations. 
(Proper First Name Should Be Written in Full — Initials and Abbrevia- 
tions Are Not Sufficient.) 
(Acts of 1903, Chap. 437.) 

Section 45. Every corporation shall annually, within thirty days after 
date fixed in its by-laws for its annual meeting last preceding the date 
of such report, or within thirty days after the final adjournment of such 
meeting, but not more than three months after the date fixed for said meet- 
ing, prepare a report of conditions which shall be signed and sworn to 
by its president, treasurer and at least a majority of its directors. 

(The blank for this report is a prepared form which can readily be 
filled out from the report made to the stockholders, and corporations with 
a capital stock of $100,000 or more, must have it certified to and by an 
appointed Auditor. Among other things it must include a statement of 
assets and liabilities at the end of the fiscal year, which in this case would 
be as follows :) 

Assets. 

Real Estate $ 50,000.00 

Machinery 30,000.00 

Merchandise including: 

Manufactures, merchandise, material and stock in process. . . . 260,000.00 

Cash and debts receivable 153,400.00 

Patent rights None 

Trade-marks None 

Good-will None 

Total $493,400.00 

277 



C. P. A. QUESTIONS AND ANSWERS 

Liabilities. 

Capital Stock $100,000.00 

Accounts payable 20,000.00 

Funded indebtedness 30,000.00 

Floating indebtedness 213,400.00 

Surplus 37,000.00 

Profit and loss 90,000.00 

Reserve for Discount 3,000.00 

Total $493,400.00 



278 



PART FOUR 



Commercial Law 



AGENCIES. 



1. Who may be principals in a contract of agency? 

Ans. In general, whatever a man may do in his own right, he may 
do by an agent. Any person legally competent to make contracts may- 
act through an agent. Formerly a married woman could not employ 
another to. act for her, since all her contracts were voidable, but with the 
removal of the wife's disabilities in most jurisdictions, she may appoint 
her husband or anyone else to do those things which she may do herself. 
A partnership may employ agents. Joint tenants may appoint agents, but 
one of two joint tenants cannot employ an agent whose acts will bind 
the other joint tenant. Corporations may employ such agents as are 
necessary to conduct the business for which they are organized. 

2. Who are not competent to become principals? 

Ans. In general, all persons who are not competent to make con- 
tracts, as enumerated in the previous question, are not competent to 
employ agents. Persons naturally incompetent, such as lunatics, idiots, 
and persons of unsound mind, cannot appoint agents. A drunken person 
cannot appoint an agent, though he may ratify, when sober, an appoint- 
ment made while intoxicated. An infant may not appoint an agent. No 
agent can be appointed by a citizen of one country or state to act in 
another country or state during a time of war between such countries or 
states. 

3. Who may become agents? 

Ans. The same qualifications are not required for agents as are 
required for principals. As a general rule, any person of sound mind may 
become agent for another. An infant, except one of very tender years, 
may become an agent and his contract be binding upon his principal. 
A married woman, even where she is prohibited from making contracts 
in her own right, may become agent for her husband, and bind him by her 
contracts in that capacity. Or she may become agent for a third person 
even in contracts with her husband. The husband may become the agent 
of the wife to do those things she is permitted to do in her own right. 

4. Who may not become agents? 

Ans. An idiot, lunatic, or person of unsound mind is not competent 
to act as agent, for he is not endowed with sufficient discretion or under- 
standing to make contracts for his principal. For the same reason, an 
infant of very tender years is incompetent to act as agent. 

279 



C. P. A. QUESTIONS AND ANSWERS 

5. What is necessary to the creation of the relation of principal and 
agent ? 

Ans. To create an agency, an appointment is necessary ; the appoint- 
ment may be express or it may be implied from the acts and relationship 
of the parties, or in some cases it may be presumed by law. 

6. How are express appointments of agents made? 

Ans. Generally, the authority given to an agent to execute an instru- 
ment under seal, such as executing a deed to real estate, must be in writing 
under seal. This is the most formal kind of express authority to the 
agent. Express authority may also be given in writing, not under seal, 
when acts may be done by the agent without executing a sealed instru- 
ment, or orally, when written authority is not made necessary by statute. 

7. When is written authority under seal necessary in order to permit 
the agent to act so as to bind his principal? 

Ans. All acts conveying land, or any interest in land, or the signing 
of bonds for the principal which are required to be under seal, must be 
authorized by a writing under seal. Such an instrument is generally 
known as a "power of attorney" and the agent acting under it as "attorney 
in fact." 

8. How may an implied agency arise? 

Ans. From the relation of the parties to each other and from their 
conduct. One person may stand in such relation to another that the law 
will presume that his acts are authorized by the other as principal. Thus, 
the wife is the agent of the husband in the purchase of household necessi- 
ties. As to other acts, she must have express authority. An attorney who 
acts for a party in court is presumed to have authority until the contrary 
is shown. A partner is the general agent of the co-partnership in all mat- 
ters within the scope of the partnership business. 

Agency may be implied from the conduct of the parties. Where one 
person holds another out as his agent, or permits the other to hold him- 
self out as his agent and remains silent, he is prevented from denying the 
other's authority to act as such agent, and is bound by his acts, even 
though he has never given him express authority. Where one ratifies 
another's acts, the agency is implied, even though there had been no 
express authority in the first place. 

9. Can the authority of the agent be' delegated by him to a third party? 

Ans. Generally, it cannot. As the power conferred by the principal 
upon the agent depends upon some special trust or confidence, the former 
places in the latter, his authority cannot be delegated. And so public 
officers, the officers of corporations, personal representatives and trustees, 
attorneys at law, brokers, and all classes of agents in whom some peculiar 
personal trust or confidence is placed, or who are empowered to perform 
acts which require some especial skill or confidence, cannot delegate their 
authority. But agents employed to perform purely ministerial, executive 

280 



COMMERCIAL LAW 

or mechanical duties may authorize others to perform them. The usage 
and custom of a particular occupation may govern, as, for instance, a 
bank has implied authority to appoint another bank in a distant city to 
collect on a note, or a broker may act through a broker in another city. 

10. Is the principal or the agent responsible for the acts of the sub- 
agent? 

Ans. Where authority is expressly given to the agent to employ sub- 
agents or such authority may fairly be implied from the nature of the 
agency, the principal alone is responsible for the acts of the sub-agent, 
and the original agent is only responsible if he has been guilty of fraud or 
gross negligence in the appointment of the sub-agent. And an agent will 
not be responsible for any acts of a sub-agent appointed by the principal 
and placed under him; 

11. What are the two principal classes of agencies? 

Ans. An agent may be a general agent or a special agent. A general 
agent is one who is authorized to do all acts connected with a particular 
trade or business. A special agent is one who is authorized to do only 
certain specific things in accordance with particular instructions or within 
particular restrictions implied from the act to be done. 

12. What is the duty of a third person with respect to the agent's 
authority, if he would bind the principal? 

Ans. Third persons must ascertain the scope of the agent's author- 
ity and are put on their guard to do so by the very fact of the existence 
of the agency. The mere statement by the agent of his authority does not 
bind the principal. Where the agent's authority is in writing, the third 
party is presumed to know its scope. But the principal is bound by all 
acts of the agent within apparent scope of his authority. The authority 
of a general agent, however, is not unlimited and is restricted to the acts 
within the scope of his principal's business. If he exceeds that authority, 
the principal is not bound. The authority of a special agent must be 
strictly followed and the principal is not bound if the agent exceeds his 
authority. 

13. Of what effect are instructions to the agent modifying his 
authority upon the rights of third persons to hold the principal liable for 
the agent's acts? 

Ans. If the instructions are private, and the acts done are within the 
scope of the agent's apparent authority, the principal is liable for such 
acts, but if the third persons were informed or were otherwise aware of 
the modification of the agent's authority, the principal is not liable for 
acts done in violation of such modification of the agent's authority. 

14. Of what effect is usage or custom in determining the scope of 
the agent's authority? 

Ans. Third persons, dealing with an agent and having no means of 
knowing of the existence of any specific limitations upon that agent's 

281 



C. P. A. QUESTIONS AND ANSWERS 

authority, have the right to presume that the agent possesses all the 
authority which is usually given to such agents in the particular line of 
business in which the principal is engaged, and a power given to an 
agent carries with it the right to do whatever is usual and necessary in order 
to carry into effect that particular power. 

15. How is a general authority to the agent to sell goods to be con- 
strued? 

Ans. The agent's authority, if not ambiguous, must be construed strictly, 
and an agent having the bare authority to sell goods, must sell for cash. It does 
not carry with it the authority to exchange, to accept securities, to extend 
credit, or to take anything in exchange for goods except cash. However, usage 
may govern, and where the custom of the particular business is to extend 
credit, the agent's authority may be construed as permitting him to extend 
the usual and customary terms. 

16. Can an agent bind his principal by executing or indorsing a 
promissory note? 

Ans. The agent's power to give or indorse a promissory note must be 
express, thought it may sometimes be implied from usage or custom. 
Authority to make or indorse negotiable paper will be very strictly con- 
strued, and he cannot bind his principal by execution or indorsement of 
paper differing in amount or time from that authorized. 

17. Is there any difference in the legal effect of an instrument signed 
"John Smith, Agent for William Brown" and one signed "William Brown, 
by John Smith, Agent?" 

Ans. There is no legal difference in the effect of either signature. 
Either would bind the principal if the necessary authority existed. The 
latter form of signature, however, is preferable and generally used. 

18. When an agent has authority to execute a promissory note for 
his principal, will the validity of the note be affected by the agent's sign- 
ning merely with his principal's name, and omitting his own signature? 

Ans. No. But the better practice by far is for the agent to sign 
both his own name and the principal's, so that the names of all parties 
connected with the instrument shall appear on the instrument itself. 

19. When an agent signs a note merely with his own name as agent, 
and does not disclose the name of his principal, whose note is it? 

Ans. It is the obligation of the agent alone and not of the principal. 

20. A note is indorsed by a bank cashier in his official capacity as 
"John Smith, Cashier," without adding the name of the principal . Is 
this the indorsement of the bank or of John Smith as an individual? 

Ans. The same strictness is not required in the case of execution of 
negotiable instruments by officers of a bank as is required of other agents. 
Such indorsement would be the indorsement of the bank, the term 
"Cashier" sufficiently designating the principal. 

2S2 



COMMERCIAL LAW 

21. When authority to bind the principal in matters of a private 
nature is conferred upon two or more agents jointly, will the acts of one 
bind the principal? 

Ans. No. Unless it is clear from the terms of the authority that 
either or both may act, one of two joint agents cannot bind the principal 
without the consent of the other. 

22. What in general is the duty of the agent toward his principal? 

Ans. The agent must follow strictly the instructions of his principal 
with respect to carrying out the contract of agency. If he fails to do this, 
he breaks his contract and may be dismissed and may also be held to damages 
for such breach. 

23. When the agent is not to get pay for his services and has not yet 
entered upon the performance of his duties as agent, is he liable for any 
damages resulting from his failure to follow his principal's instructions? 

Ans. No. But even though the agency be non-remunerative, and the 
agent has once entered upon the performance of his duties, he will be re- 
sponsible for any breach, even though the agency be gratuitous. 

24. Will the agent be liable for neglecting to follow his principal's in- 
structions, where by so doing, he would be compelled to do an illegal or an 
immoral act? 

Ans. Manifestly no. Nor would such failure to follow instructions re- 
sult in such a breach as would permit the principal to abrogate the con- 
tract of agency. 

25. Where the agent's failure to follow directions was due to some 
necessity or emergency, will he be liable for such failure? 

Ans. Not if such necessity or emergency was not created by his own 
default and he used his best judgment in behalf of his principal. This does 
not, however, justify the agent in assuming any unauthorized powers that 
are not absolutely necessary to protect his principal. 

26. In the absence of specific instructions, how may the agent guide 
his conduct? 

Ans. He is bound to follow the established usage or custom of the 
particular line of business on which he is employed, but no usage or custom 
justifies him in disregarding or violating express instructions. 

27. What amount of skill or diligence is the agent required to possess 
or exercise? 

Ans. An agent is understood to contract for the possession and ex- 
ercise of ordinary skill and diligence, that is, for the skill possessed ordi- 
narily by persons of common capacity engaged in that particular line of 
business, and that he will exercise that degree of diligence which persons of 
common prudence exercise in their own business, and he is liable for any 
injury to his principal occasioned by his lack of ordinary skill or by his 
ordinary negligence. 

283 



C. P. A. QUESTIONS AND ANSWERS 

28. Is it the duty of the agent to insure the property of his principal 
which he may have in charge? 

Ans. Xo, but if he has received instructions to insure or has been in 
the habit of insuring under similar circumstances, or it is the usage and cus- 
tom in such transactions to insure, he will be liable himself as insurer for 
any loss arising from his failure to insure, or from his imperfect execution of 
insurance. 

29. Is it the agent's duty to keep his principal regularly informed of 
matters material to his interest? 

Ans. It is, and he will be liable in damages to his principal for any 
loss sustained through his failure to keep his principal regularly informed 
of his transactions. 

30. In purely gratuitous agencies, what is the degree of responsibility 
of agent to principal? 

Ans. The unremunerative agent is held to a much lower degree of 
responsibility than the agent for hire, and will be only responsible in cases 
of gross negligence, or willful and malicious fraud. But one who holds him- 
self out as possessing peculiar skill or knowledge in his business or pro- 
fession is held to the same degree of care and the same liability as an agent 
for reward, even though he is to receive no compensation for his services. 

31. To what extent is the agent a trustee for his principal? 

Ans. The agent must exercise the utmost good faith and loyalty 
toward his principal. He must not assume a position antagonistic to his 
principal, nor speculate in the subject of the agency, nor employ the prin- 
cipal's property for his own use, nor act both for his principal and for some 
other person with whom he deals on behalf of his principal. 

32. May an agent, authorized to purchase, purchase for himself, or 
one authorized to sell, sell to himself? 

Ans. Not without his principal's knowledge and his consent thereto. 
Any act of the agent's in conflict with the principal's best interests is in the 
nature of a breach of trust. 

33. What is the agent's duty with regard to his principal's property? 

Ans. The agent must not commingle his principal's property with his 
own, and if he allows them to become so commingled as afterwards to be 
indistinguishable, the whole will belong to the principal. 

34. What is meant by the ratification of the acts of an agent by the 
principal and what is its significance? 

An?. Ratification is the acceptance or adoption of the acts of another 
done for one without his authority and has the effect of establishing the 
rights and obligations of an agency. No new additional consideration is 
required to support the ratification. 

284 



COMMERCIAL LAW 

35. What acts may be ratified? 

Ans. Generally, only those acts which could have been authorized in 
the first instance. Void or voidable acts may not be ratified, nor fraudulent 
acts which involve crime. 

36. Must the ratification necessarily be express? 

Ans. No. Ratification may arise by implication from the conduct of 
the person for whom the act is done. Ratification may arise from previous 
acts of the principal under similar circumstances. And where one accepts 
the profits or benefits of an act done for him, ratification of that act is the 
result, without any express acceptance of it as the act of his agent, and 
even against his express disavowal of the act. And even mere silence may 
amount to a ratification, where the principal with full knowledge that the 
unauthorized act has been done for him, neglects to disavow it, as the act 
of his agent. He should disavow it, within a reasonable time. 

37. Can the ratification of the act of an agent be revoked? 

Ans. No. When once made the principal is bound. But a disavowal 
of the agent's act may be withdrawn and the act ratified, provided that be- 
tween the disavowal and subsequent ratification, the third party has not 
abandoned the contract. 

38. When may the authority of an agent be revoked? 

Ans. When no definite term has been agreed upon the principal may 
revoke his authority at any time. And when the agreement, even for a 
definite term, is based upon the proviso that the agent prove satisfactory 
to the principal, he may revoke whenever he may feel justified in doing so. 

39. In what manner may an agency be revoked? 

Ans. Revocation may be effected in any manner showing the in L ention 
of the principal to withdraw his authority. It may be express or may arise by 
implication from his acts. Even an authority in writing may be revoked ver- 
bally. 

40. When does an agent's right to his compensation attach? 

Ans. When the services for which he was employed have been fully 
and faithfully performed, no matter whether they have been profitable to 
his principal or not. 



CONTRACTS. 

1. What are the essential elements of a valid contract? 

Ans. There must be a meeting of the minds of the parties with respect 
to their intention, which takes the form of an offer and an acceptance. 
There must be a valuable consideration. The parties must have capacity 
to contract. The objects of the contract must be legal. To create a valid 
contract the acceptance must be absolute and identical with the terms of 
the offer. 

285 



C. P. A. QUESTIONS AND ANSWERS 

2. What contracts, generally, should be in writing in order to be en- 
forced at law? 

Ans. A promise to answer for the debts of another must be in writ- 
ing. Contracts for the sale of real estate or any interest in real estate must 
be in writing, if they are to be enforced. Any agreement that is not to be 
performed within one year from its date, must be in writing. The most 
common illustration of this is in the case of leases which are valid for one 
year if made orally, but must be in writing to hold either landlord or tenant 
for more than a year. Generally, a contract for the sale of personal property 
for the price of $50 and upwards should be in writing, unless part of the 
goods sold are delivered, and accepted, or part of the purchase price paid to 
bind the bargain. 

3. How does every contract originate? 

Ans. Every contract arises out of an offer by one party and an accept- 
ance by the other. 

4. What is an executory contract? 

Ans. An executory contract is one which is wholly unperformed, or 
in which something still remains to be done on both sides, as where A 
undertakes to deliver goods to B at some future time, for which B is to pay 
in the future. 

5. What is an implied contract? 

Ans. A contract is frequently implied by the law from the conduct of 
parties and the surrounding circumstances. If One orders goods delivered 
from a store, a contract is implied that he will pay for them at a reasonable 
price. 

6. How may a contract once entered into be discharged? 

Ans. It may be discharged by agreement between the parties who 
are bound by it. This is called waiving, canceling, or rescinding the 
contract, and is in fact a new contract, subject to the test of mutuality, con- 
sideration, etc. One party cannot discharge the contract without the con- 
sent of the other. A contract may be discharged by its performance. When 
all things undertaken by the parties have been done and all rights satisfied, 
the contract is discharged. The contract may be discharged by breach. 
This creates a new obligation on the part of the party committing the 
breach and the other party may have a right of action by reason of such 
breach. A contract may be discharged by reason of its becoming impossible 
to perform it. A man may contract to perform certain services and may be 
incapacitated by illness or may die. This would operate to discharge the 
contract. A contract may also be discharged by operation of law. A man 
may be discharged from all contracts by bankruptcy, for instance. 

7. What rights under a contract may be assigned? 

Ans. Money due or property rights under a contract can be assigned, 
but the rights to personal services cannot be assigned, without the consent 
of the other party to the contract. 

286 



COMMERCIAL LAW 

8. What constitutes a valuable consideration, such as is necessary to 
the validity of a contract? 

Ans. A valuable consideration is something that has some value in the 
eyes of the law. It need not be money or goods. A promise is a valuable 
consideration; so also is forbearance to do something which one is entitled 
to do. The consideration need not be adequate so long as it is of some 
value. So the sale of valuable goods "in consideration of one dollar" is a 
contract supported by a valuable consideration. The consideration must be 
legal. The doing of an illegal act or the promise to do an illegal act can 
never be a valid consideration for a contract. The consideration must be 
present or future but never past. 

9. If an offer is made by mail and an acceptance is returned by mail, 
when is the contract concluded? 

Ans. When a mail acceptance is sent to a mail offer, the contract is 
concluded the moment the acceptance is placed in the mails properly 
addressed to the person making the offer and carrying sufficient postage. 
The fact that the letter of acceptance may be delayed, or may never be re- 
ceived does not affect the rights of the parties to enforce the contract. 

10. One manufacturer agreed with another engaged in the same busi- 
ness, in consideration of $1,500 to cease manufacturing certain articles for 
one year. Can the contract be enforced? 

Ans. This is a contract in restraint of trade and so is void as against 
public policy. Contracts may be void because the thing done is prohibited 
by statute or by the common law, or they may be void because the courts 
hold them to be against public policy. The various trust laws are laws 
prohibiting contracts in restraint of trade. 

11. One of the creditors of an insolvent estate withdrew his aid from a 
suit pending in the interest of all the creditors, upon defendant's promise to 
pay his claim in full. Can he enforce such a contract? 

Ans. Such a contract is void on the grounds of public policy. A 
promise which seeks to secure to one of several who are acting in a matter 
of common interest a secret advantage over his associates, is a promise to 
commit a civil wrong and so is void as being against public policy. 

12. James Black wrote to William Tomlinson offering him one hun- 
dred barrels of apples at $3 per barrel. Tomlinson replied, "I accept your 
offer, you guaranteeing apples to be shipped immediately and free from 
all defects." The market price of apples rose within the next week one 
dollar per barrel, and no apples arriving Tomlinson wired, asking why his 
apples had not been shipped. To this Black replied that he had sold the 
apples elsewhere and was not shipping any to him. Tomlinson then 
brought suit for the one dollar per barrel advance in price. Can he recover? 
State the reasons for your answer. 

Ans. In order to make a contract complete and binding on all parties 
there must be an offer made by one of the parties to the other, which offer 
must be accepted without any qualifications. In the case stated, Tomlin- 

287 



C. P. A. QUESTIONS AND ANSWERS 

son only accepted the offer under the express condition that the party 
making the offer guarantee the apples to be shipped immediately and free 
from all defects. A contract was, therefore, not made, and Black was not 
obliged to ship the apples. Tomlinson was, therefore, not entitled to re- 
cover. 

13 When the contract calls for payment of money, what performance 
is necessary? 

Ans. A contract where the consideration is the payment of money 
or the promise to pay money is only performed when the exact amount 
agreed upon is paid, with legal interest from the time payment is due 
until the amount is paid. 

14. Where no place or manner of payment is specified in the contract, 
how is the debtor under obligation to make payment ? 

Ans. Where there is no specified place or manner of payment, the 
debtor's duty is to make the payment personally to the creditor, but if the 
creditor receives the payment in any other manner, the debt is discharged. 

15. What are contracts of record? 

Ans. Contracts of record are contracts which prove themselves, that 
is, contracts which merely have to be produced in order to prove the evi- 
dence of their existence. Such contracts are judgments, recognizances and 
the like. 

16. What is a formal contract? 

Ans. A formal contract is one which depends for its validity upon its 
form rather than upon other essentials. A contract under seal is practically 
the only kind of formal contract. 

17. What is the advantage of a formal contract? 

Ans. In a formal contract the consideration need not be proved. It is 
implied from the fact of their being a seal. 

18. W r hat is a consideration? 

Ans. A consideration is that which the law regards as the induce- 
ment for entering into a contract. 

19. What are the characteristics of a valuable consideration? 

Ans. Anything that is of profit or benefit to the party making the 
promise, or is of detriment or inconvenience to the party to whom the 
promise is made is a valuable consideration. A valuable consideration need 
not be money or property. A promise to do a particular thing is a valuable 
consideration, so also is a forbearance to do a thing which one is entitled 
to do. 

20. In what forms may an offer be made ? 

Ans. An offer may be made of an act in exchange for a promise, as 
where one promises to deliver goods or to perform a service in exchange 
for a promise to pay for such goods or service. 

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COMMERCIAL LAW 

An offer of a promise may be made in exchange for an act, as where one 
offers to promise to pay for goods delivered to him or for services rendered. 

An offer of a promise may be made in exchange for a promise, as 
where one promises to pay at some future time if the other party gives in 
exchange a promise to deliver goods or perform some service at a future 
time. 

21. How may an offer be communicated? 

Ans. Both offer and acceptance must be communicated. But this 
communication may be either express or may be implied from the conduct 
of the parties and surrounding circumstances. The mere fact that a mer- 
chant has goods exposed for sale is an implied offer to sell, and the taking 
or ordering of the goods by a purchaser is an implied acceptance of the 
offer. 

22. What is the distinction between a void contract and a voidable one? 

Ans. A void contract is one that is altogether invalid and unenforce- 
able and can never be anything else but invalid and unenforceable. A 
voidable contract is one which has validity, but which may be evaded. It 
may be ratified and turned into an enforceable contract by ratification or 
into a void contract by repudiation. 

23. May a person enter into a contract under any name that he chooses ? 

Ans. A person may assume a fictitious name in entering upon a con- 
tract, provided it is not done with intent to defraud. 

24. What is the Statute of Frauds ? 

Ans. The Statute of Frauds is an old English Statute which required 
certain classes of agreements to be put into writing in order to prevent 
fraud and in order that the exact meaning of the parties might be ascer- 
tained. This statute has in some form or another been re-enacted in every 
state and when a particular agreement which the law requires to be in 
writing is sought to be enforced, it is said to be contrary to the Statute of 
Frauds if there is no written memorandum of the agreement. 

25. What is a breach of contract? 

Ans. A breach of contract is a failure or refusal to carry out the terms 
of the contract. 

26. In what ways may a breach of contract arise? 

Ans. From a refusal to perform an executory contract before the time 
arrives for its performance. 

By failure to carry out the terms of the contract, and 

By a party rendering the contract impossible of performance by his 
own act. 

27. What remedies has one party for breach of contract by the other ? 

Ans. He may sue for damages caused by the breach, or in certain limited 
cases, he may compel a specific performance of the contract. 

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C. P. A. QUESTIONS AND ANSWERS 

28. The law of what place generally governs the contract? 

Ans. The general rule in interpreting or enforcing a contract is that 
the law of the state where the contract was made governs the contract. 

29. How is the place of making the contract determined ? 

Ans. The place where the contract is made is the place where the 
contract is finally consummated. Since the contract takes the form of offer 
and acceptance, and is completed by acceptance, the place of acceptance 
is the place where the contract is made. 

30. What exceptions are there to the general rule that the place where 
the contract is made governs it? 

Ans. Where the contract specifically names the place of perform- 
ance, then the law of the place where the contract is to be performed, 
governs it. 

Transfers of land or of any interest in land are governed by the law of 
the state where the land is situated. 

In the sale of personal property when the contract is to be completed 
by delivery of the goods, the law of the place of delivery governs the 
contract. 



CORPORATIONS. 

1. What is a corporation? 

Ans. A corporation is an artificial being created by law and possessing 
powers conferred upon it by charter either expressly or as incidental to its 
existence. 

2. What are the general advantages of incorporating a business? 

Ans. It enables men to invest small or large amounts of capital in a 
business without any risk beyond the amount of the capital stock sub- 
scribed for. With a few exceptions, there is no liability on the part of a 
stockholder in a corporation for debts of the corporation, beyond the 
amount of the capital stock subscribed for. If the stock is fully paid up, 
there is no liability at all on the part of the stockholder for debts of the 
corporation. If the stock is not fully paid up he is liable for a sum equal to 
the amount of his unpaid stock subscription. Labor debts are usually ex- 
cepted by statute, and stockholders of a corporation are liable for all debts 
of the incorporation incurred for labor, no matter what the amount of their 
subscription, or whether their stock is fully paid up or not. There is also 
added liability on the part of holders of stock in banking corporations. In 
most states, holders of bank stock are liable to an amount equal to double 
the par value of their stock subscriptions. A member of a co-partnership 
is liable for all of the debts of the co-partnership no matter how small his 
individual interest in the co-partnership may be. Hence the advantage of 
the corporation. Many enterprises, especially very large ones, would be 
impossible without the corporation. The individual hazards would be so 
great as to deter anyone from undertaking them. Moreover the corporation 

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COMMERCIAL LAW 

is in a way a perpetual being. The death of one or more of its members has 
no effect upon its continued existence and operation. 

3. What are the principal classes of corporations? 

Ans. Public, private and quasi-public corporations. Public corpora- 
tions are governmental institutions for the regulation of public affairs, such 
as municipal and village corporations. Private corporations are those 
created to regulate and conduct private interests, such as manufacturing, 
mercantile corporations and the like. Quasi-public corporations are those, 
which though created to regulate a private business incidentally benefit and 
accommodate the public, such as railroad companies, canal companies, depot 
companies, etc. They are given certain governmental powers such as the 
right to condemn land for right of way, etc., and are subject to certain gov- 
ernmental checks and surveillance such as the Inter-State Commerce Act, 
the Railway Rate Law, etc., but they are not public corporations. 

4. How are private corporations created? 

Ans. By the state, by charter granted under a general law, or by 
special statute. Congress may create corporations for the District of 
Columbia. 

5. What constitutes the charter of a corporation? 

Ans. Generally, the articles of incorporation are the general or the 
special act under which they are issued. 

6. What is the usual method of forming a corporation? 

Ans. The drafting of the articles of incorporation, in compliance with 
the provisions of the act under which it is sought to incorporate, the signing 
of the articles by the number of incorporators required by the act, a certain 
number of whom are usually required to be residents of the state of in- 
corporation, the subscription by them to the capital stock to the amount re- 
quired by the act, the filing and recording of the articles with the Secretary 
of State, and with the county clerk in the county in which the corporation 
has its principal office, the first meeting of stockholders upon statutory 
published notice unless such notice is waived, the election of directors and 
officers, and the adoption of by-laws. 

7. What are the usual requirements as to the contents of the articles 
or certificate of incorporation? 

Ans. The name of the proposed corporation, its place of business, the 
act under which it seeks to incorporate, the specific purpose or purposes for 
which it desires to organize, the total amount of its authorized capital stock, 
the number and value of shares into which such capital stock is divided, the 
amount of stock subscribed for, and in what manner paid in, the names and 
residences of the incorporators and the amount of stock subscribed for by 
each. 

8. What is the territorial extent of the powers of a corporation? 

Ans. A corporation being the creature of the state creating it, has no 
powers beyond the limits of that state, and cannot do business in another 

291 



C. P. A. QUESTIONS AND ANSWERS 

state except as it may be permitted by such foreign state under regulations 
provided by it or as it may be protected by the federal Constitution when 
engaged in inter-state commerce. 

9. What are the powers of a corporation in the state of its creation? 

Ans. A corporation may do only those things which are permitted to 
it by its charter or which are incidental to its existence. All other acts are 
called "ultra vires." 

10. May a corporation hold title to real estate? 

Ans. Unlike a partnership which cannot hold title to real estate as a 
partnership, a corporation may own the legal title to land, though in some 
states the amount of land and the time for which it may hold it, is limited. 

11. May a corporation make a contract with one of its members or 
stockholders? 

Ans. A corporation is a being separate and distinct from the indi- 
viduals composing it, and unless prohibited by charter may make contracts 
with any of its stockholders. It may also make contracts with its directors 
or officers if such contracts are made in good faith and are free from any fraud 
upon the stockholders. 

12. What power has a corporation to borrow money and issue promis- 
sory notes? 

Ans. In the absence of charter prohibition a corporation may borrow 
money and issue evidence of indebtedness as may an ordinary individual, 
though usually the power of officers to borrow money and issue notes is 
regulated by the by-laws of the corporation. But a corporation may not 
borrow money or issue notes for a purpose not contemplated in its charter. 

13. May a corporation become guarantor or surety for another's 
debts? 

Ans. Usually it may not unless this is especially permitted by its 
charter. Such an act is ultra vires as it would be risking the capital of the 
corporation in an enterprise not contemplated by its charter. And so a 
corporation generally may not become an accommodation indorser upon 
another's paper. 

14. May a corporation hold stock in another corporation? 

Ans. Generally it may not unless the power is expressly conferred 
upon it by its charter. This would be an ultra vires act in that it would 
enable the corporation to get control of enterprises not within the scope of 
its authorized powers. But a corporation may take stock in another cor- 
poration as collateral for or in payment of debts to it. And a corporation 
may sell its property for stock in another corporation for the purpose of 
distributing such stock among its own stockholders in winding up the company. 

15. May a corporation hold, buy and sell its own stock? 

Ans. In most states it may, provided it does so in good faith and so 
as not to defraud creditors, and in all cases a corporation may take its own 
shares for payment of debts due to it. 

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COMMERCIAL LAW 

16. Is a corporation liable for the wrongful acts of its agents or em- 
ployes? 

Ans. It is, provided the act was done in the regular performance of 
the officer's or agent's duties as an employe of the corporation. 

17. What is the effect of the dissolution of a corporation upon claims 
against it? 

Ans. In the absence of statutory provision, no claim can be main- 
tained against a corporation after its dissolution, but in most states the 
incorporated acts specifically provide that for the purposes of suit the 
corporation shall continue to exist for a certain period after formal dissolu- 
tion. 

18. What is the capital stock of the corporation? 

Ans. The money or property fixed as the basis for conducting the 
business of the corporation. 

19. What are shares of stock? 

Ans. The subdivisions of the capital stock fixing the interests of the 
individual stockholders in the property and profits of the corporation. 

20. Of what nature is the property designated by shares of stock? 

Ans. A share of stock is always classed as personal property, even 
though the property of the corporation consists exclusively of real estate. 

21. What is a stock certificate? 

Ans. Tt is the evidence of the ownership of shares of stock. It is not 
the stock itself, any more than a bill of lading or a warehouse receipt is the 
property itself. 

22. Are certificates of stock negotiable? 

Ans. They are not, and the purchaser of a certificate gets only such 
right to the shares as the original holder thereof had. 

23. What is the difference between common stock and preferred 
stock? 

Ans. Common stock is entitled only to prorata dividends from the 
profits of the corporation without priority or preference. Preferred stock 
has a preferred dividend which must be paid before any dividend is issued 
on the common stock, even though such preferred dividend exhausts all 
the profits of the corporation and leaves none to be paid on the common 
stock. When the profits will not justify, it is manifest that no dividends 
should be paid even on preferred stock. 

24. What are the respective rights of creditors and preferred stock- 
holders? 

Ans. The outside creditor has a preference over the preferred stock- 
holder and the corporation's debts must be paid before the preferred stock 
is entitled to any dividends. 

293 



C. P. A. QUESTIONS AND ANSWERS 

25. What is treasury stock? 

Ans. Stock issued to the corporation itself and held by it. This is fre- 
quently done to provide for expected increase in the available capital of the 
business, by selling treasury stock. 

26. What is watered stock? 

Ans. Stock issued at face value when in fact it is not represented by 
actual property of the corporation. 

27. When is stock considered as being issued? 

Ans. When it has been subscribed for. Actual issue and delivery to 
the stockholder is not necessary, the certificate being merely the evidence 
of the ownership of the shares. 

28. What may be received in payment of stock subscription? 

Ans. Anything of value. It may be money, or property, or services, 
or the release of an obligation. 

29. What is meant by over-issued stock? 

Ans. Stock issued in excess of the authorized amount. It has no value 
though the purchaser may recover damages from the corporation or from 
the officers who isued it. 

30. Who is a stockholder in a corporation? 

Ans. One who is a member of the corporation, by reason of his own- 
ing one or more of its shares of stock. He is also called a shareholder. The 
actual holding of a certificate is not necessary. One may be a stockholder, 
though no certificate has been issued to him. The fact of legal ownership of 
the shares, is the test of whether or not one is a stockholder. 

31. When does a stockholder in a corporation cease to be such? 

Ans. When he parts with his stock, when his shares are forfeited, 
when the corporation is dissolved, or when he is expelled, in those corpora- 
tions where expulsion is possible, such as religious corporations, social clubs 
and the like. 

32. Have stockholders any title to the property of the corporation? 

Ans. They have not. The property is the property of the corporation 
which is an artificial being. The stockholder merely owns the right to share 
in the management and profits of the corporation, and to share in the resi- 
due of the assets, upon dissolution, after the debts are paid. 

33. Has a stockholder any title to the profits of the corporation? 

Ans. Only when a dividend has been actually declared. Until then, 
undivided profits are the property of the corporation. 

34. What are the rights of a stockholder as against a creditor? 

Ans. They are clearly subordinate to those of the creditor. He is en- 
titled to share in profits and assets only after the corporation debts are 
paid. 

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COMMERCIAL LAW 

35. Is there any trust relation between stockholders, or between a 
corporation and its stockholders? 

Ans. There is not. There exists a trust relation between co-partners 
and between individual partners and the co-partnership, but in a corporation 
the stockholders stand in the same relation to each other and to the com- 
pany as do the parties to any other contract. The officers and directors 
of a corporation do, however, stand in a trust relationship toward the stock- 
holders. 

36. Must the subscription to stock be in any particular form? 

Ans. No. Any form will do, so long as it shows clearly the intent to 
subscribe. And subscribers may be bound even if the form prescribed by 
the statute or the charter is not exactly followed. The subscription is 
not invalidated by a mistake in the name of the corporation, so long as it 
is clear which corporation was intended. 

37. Must the subscription be in writing? 

Ans. A written subscription is not generally necessary and a verbal 
agreement to subscribe may be enforced. 

38. Who may subscribe for corporation stock? 

Ans. Anyone who is capable of making contracts generally, except 
that corporations which are prohibited from holding stock in other corpora- 
tions may not subscribe. 

39. What is meant by forfeiture of stock? 

Ans. It is the usual remedy which the corporation exercises when the 
unpaid stock subscription is not paid after being called in. Upon forfeiture, 
the stock reverts to the corporation or is sold and the proceeds applied upon 
the amount due. The power of forfeiture must be exercised in exactly the 
manner prescribed by statute in order to be valid, and all the details of 
notice, publication, etc., must be carefully carried out. 

40. What are, and what are not good defenses to an action attempting 
to enforce a call for unpaid subscriptions? 

Ans. A material change in the corporate design if made without the 
subscriber's knowledge or consent will release him. So also will the cor- 
poration's failure to live up to the conditions of the contract with the sub- 
scriber, and generally when the rest of the stock is not subscribed for, the 
subscriber will not be liable. But an immaterial change in the corporate de- 
sign, or a change in the corporate charter which merely increases the powers 
of the corporation, or delay in carrying out the purposes of the corporation 
will not operate as a good defense to defeat the enforcement of a call. When 
there has been fraud or misrepresentation in securing the subscription, the 
subscriber has a good defense on which to base his failure to comply with 
the call. 

41. What constitutes a release by the corporation to the subscriber 
from his stock subscription? 

Ans. Any agreement with the corporation based upon an adequate 
consideration and consented to by all the rest of the subscribers. 

295 



C. P. A. QUESTIONS AND ANSWERS 

42. What generally are the rights of stockholders in a corporation? 

Ans. They may attend and vote at all stockholders' meetings, vote for 
directors, share in the profits and dividends and in the assets after disso- 
lution. 

43. What is the status of a stockholder to whom the corporation is 
indebted? 

Ans. He stands in the same relation to it as does any other creditor, 
and has the same rights. There is nothing inconsistent in his relation 
both as a stockholder and as a creditor of the corporation. 

44. What are the stockholder's rights with respect to the books of the 
corporation ? 

Ans. He has a right to inspect them personally, or by agent, or 
attorney, and to make memoranda or copies from them if he chooses. But 
this right must be exercised only in a reasonable manner, and at reason* 
able times, and must not impede the corporation's business. 

45. What is the purpose of stockholders' meetings and when and 
where should they be held? 

Ans. Stockholders' meetings are necessary in order to express the 
corporation's will, and should be held at such time and place as is fixed 
by the statute or the charter and by-laws of the corporation. But no 
stockholder who takes part in a meeting held at any other time and place 
or who assents to it can afterwards object to the legality of such meeting. 
When no time and place are fixed, meetings may be held upon call, but 
this call may be waived by all the stockholders' consent or by their attend- 
ance at the meeting, and any irregularities in the call are also waived by 
such attendance. 

46. What business may be transacted at stockholders' meetings? 

Ans. If the meeting is a general one called in pursuance of the statute 
or the laws of the corporation, anything may be done which comes within 
the scope of the legitimate corporate business. If the meeting is a special 
meeting, only such business may be transacted as is stated in the call and 
notice of such special meeting, though this restriction may be waived by 
the consent of all of the stockholders. 

47. Under what theory is a corporation stockholder liable to creditors 
for unpaid subscriptions to corporation stock? 

Ans. The capital stock of a corporation is a trust fund for the benefit 
of its creditors, and no part of it can be withheld if there are enough assets 
to pay creditors. And the liability of the stockholder for unpaid subscrip- 
tions can not be waived by agreement with the corporation, so far as the 
rights of creditors are concerned. 

48. What is the position of the stockholder who accepts stock as a 
bonus? 

Ans. He is liable for the full face value of the stock to those who 
have become creditors after the bonus stock has been issued, but is not 

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COMMERCIAL LAW 

liable to those who were already creditors when the stock was issued to 

him. 

49. What is the position of the stockholder who has received stock 
in payment for property or services? 

Ans. If the property or services are reasonably worth the amount 
put upon them, he will not be liable, but if the value put upon either the 
property or the service is grossly excessive, he will be liable for the dif- 
ference between their reasonable value and the face value of the stock, 
so far as credtiors are concerned. 

50. What is the general liability for debts of the corporation due 
for labor? 

Ans. In nearly all of the states, stockholders are personally liable 
for all debts due by the corporation for labor, even though the stock is 
fully paid up. As to just what services are meant, depends on the wording 
of the statute in each particular state. This has been held to include debts 
to agents, bookkeepers, reporters, editors, civil engineers, foremen, etc., 
but not to the general officers of a corporation, managers, secretaries, etc., 
nor to professional men such as lawyers and consulting engineers nor to 
independent contractors. 

51,. What is the liability of a promoter for debts contracted in form- 
ing the corporation, which debts have been assumed by the corporation? 

Ans. He is liable as an individual unless the creditor agrees to look 
to the corporation for payment. 

52. When persons associate themselves as a corporation, but the 
incorporation is defective or incomplete, what is their position as against 
creditors. 

Ans. They stand in the position of co-partners, but creditors dealing 
with them as a corporation cannot question their corporate existence, un- 
less the thing omitted or done defectively is something which by statute 
is a prerequisite to corporation existence. In such case, creditors may 
recover against the attempted incorporators as against partners. 

53. What is the effect of a transfer of the stock upon the stock- 
holders' liability? 

Ans. If the transfer is made in good faith, while the corporation is 
solvent, the transferrer is not liable for unpaid balances. But if the trans- 
fer is made during insolvency of the corporation for the purpose of avoid- 
ing responsibility, the transferrer is still liable and the statutes of Illinois, 
Iowa, Massachusetts, Michigan, Minnesota, Missouri, Nebraska, Ohio, 
Oregon, Rhode Island and Tennessee make the transferrer in any case 
liable for debts contracted before the transfer. And a bona fide trans- 
feree who buys stock without notice of any unpaid portion thereof cannot 
be held liable. 

54. In order that a transfer may relieve the transferrer from liability, 
what must be done? 

Ans. Everything that is necessary to complete the transfer. When 
a transfer must be registered upon the books of the corporation, this should 
be done. 

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C. P. A. QUESTIONS AND ANSWERS 

55. Who may enforce this stockholders' liability? 

Ans. Any creditor or the assignee of a creditor may enforce it. But 
after the appointment of a receiver for the corporation, the receiver has 
the exclusive right to sue upon the stockholders' liability. Whether a 
creditor who is also a stockholder may enforce such liability depends upon 
the statute of the particular state where the corporation is organized. An 
assignee for the benefit of creditors may enforce the liability. 

56. How may the capital stock of a corporation be increased or di- 
minished ? 

Ans. The capital stock of a corporation can neither be increased 
nor diminished except by the authority of the state as expressed in the 
statute creating the corporation. This act usually provides for the formal- 
ities necessary to such increase or reduction. It is usually done in the 
form of an amendment to the corporation charter, signed by stockholders repre- 
senting two-thirds of the stock issued, and filed with the secretary of state and 
the county clerk. An unauthorized issue of stock is the same as overissued 
stock and is void. The holder of unauthorized stock is merely a creditor 
of the corporation to the extent to which he has paid for such stock. 

57. May the Board of Directors of a corporation increase or reduce 
its capital stock? 

Ans. The authority to increase or reduce the capital stock of a cor- 
poration must be exercised by the stockholders and not by the directors, 
though an unauthorized increase or reduction of the stock by the Board 
of Directors may subsequently be ratified by the stockholders. 

58. What right has a shareholder in a corporation to sell his stock? 
Ans. The right to convey or mortgage attaches to corporation shares 

as it does to all other personal property, and ceases only upon the dis- 
solution of the corporation, and no by-law is valid that puts an unreason- 
able restraint upon such conveyancing or mortgaging. But a provision in 
a certificate that the stock shall be first offered to the corporation before 
it may be sold has been upheld, and usually the statute provides that the 
corporation shall have a lien upon the shares for debts owing to the cor- 
poration by the stockholder, and the stockholders may make a binding 
agreement among themselves not to sell their stock for a certain period, 
or to offer it first to a particular person. 

59. May a director sell his shares? 

Ans. He may, subject to the lien that the corporation has upon the 
stock for any debts he may owe to the corporation. 

60. As between the buyer and seller of stock, who is entitled to the 
dividends? 

Ans. The buyer, in the absence of agreement to the contrary, gets all 
dividends that are declared upon the stock after his purchase, no matter 
when they have been earned. But when the seller has sold the stock and 
has received in addition to the purchase price from the buyer a pro rata 
dividend up to the time of sale, the buyer may recover such sum back 
if the expected dividend is afterwards not declared. 

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COMMERCIAL LAW 

61. To what extent has the corporation a lien upon its stock? 

Ans. In most states the statutes provide that the corporation may 
enforce a lien upon its stock for unpaid stock subscription and for debts 
owing to it by the stockholders, and the statutes provide the manner of its 
enforcement, and all persons are presumed to have notice of such lien 
and to act subject to it. Such liens may also arise because of contracts 
between the corporation and the shareholder, and the corporation may also 
provide for such liens in its by-laws. But third persons are not presumed 
to have notice of such contracts or by-laws, and in order to enforce 
such lien against a bona-ride holder for value, the corporation must show 
actual notice of the contract or the by-law. An unauthorized by-law may 
have the effect of creating a lien when the shareholder against whom the 
lien is sought to be enforced, participated in the enactment of such by- 
law. The corporation is entitled to a lien on the shares of a stockholder 
who is a member of a partnership for debts owing it by the partnership. 

62. Does the statute of limitations bar the corporation's lien on stock 
for debts? 

Ans. No. The corporation may enforce its lien even though it could 
not sue to recover for the debt, owing to the running of the statute of lim- 
itations against it. 

63. What rights has the purchaser of a stock certificate to have the 
stock transferred to him upon the books of the corporation? 

Ans. He has an absolute right, and can compel such transfer. But 
a mere pledge of the certificate conveys no such right. A trustee or an executor 
of a deceased shareholder and the purchaser at an execution sale have all 
the right to have the stock transferred upon the books of the corporation, 
though in the case of the former, the corporation may demand the sur- 
render of the old certificate before it makes the transfer and issues the new 
certificate. 

64. What are the rights of a bona-fide holder of shares assigned in 
blank? 

Ans. He acquires the right of a shareholder just the same as though - 
the blank had been filled in, and his name inserted in the assignment. 

65. If the corporation has no notice of the assignment of the shares 
and issues dividends to the former owner, is it liable to the purchaser? 

Ans. No, unless it has some notice of the unregistered assignment. 
The buyer should protect himself by having his ownership registered upon 
the books of the corporation. 

66. A corporation is organized with $30,000 common stock and 
$20,000 preferred stock. Later the corporation is dissolved and an audit 
shows its assets to be $50,000 and its liabilities $30,000. How would the 
assets be distributed? 

Ans. Preferred stock can be and usually is preferred both as to divi- 
dends and capital ; under these conditions therefore, after the outside lia- 
bilities are paid the preferred stockholders would receive the remaining 
$20,000 and the common stockholders would receive nothing. If the stock 
is not actually preferred as to assets, all stockholders would share alike in 
the distribution. 

299 



C. P. A. QUESTIONS AND ANSWERS 

PARTNERSHIPS. 

1. What is a partnership? 

Ans. A partnership is a legal relation based upon express or implied 
contract of two or more competent persons to unite their property, labor, 
or skill in carrying on some lawful business as principals for their joint 
profit. 

2. What is meant by the capital of a partnership? 

Ans. The capital of a partnership is the total of money or property 
contributed by the members of the firm for the purpose of carrying on the 
partnership business. 

3. What is the character of the relation existing between partners? 
Ans. Partners occupy a fiduciary or trust relationship to each other 

and each partner must exercise the same fairness and good faith toward 
a co-partner as a trustee must toward the persons for whom he acts as 
trustee. A partner must not obtain private benefits from firm transactions 
without the consent of his co-partners. He cannot buy up claims against 
his firm, and such purchase would be equivalent to payment of the claim 
by the firm. He cannot acquire an adverse title or interest in firm prop- 
erty. If he accepts commissions for influencing firm transactions, the 
commissions belong to the firm, and profits made with the use of firm 
moneys are the property of the firm. 

4. In case of the death of one of the partners, in whom does the title 
to partnership property vest? 

Ans. When a partner dies, the title to all personal property held by 
the partnership vests in the surviving partner, or partners, subject to a 
trust, that an accounting will be made to the deceased partner's estate of 
such share as he would have been entitled to. If the deceased partner 
held title to any of the firm's real estate, such title vests in his heirs sub- 
ject to a trust in favor of the creditors of the firm and the surviving part- 
ners. 

5. What are the relative liabilities of a new partner and a retiring 
partner? 

Ans. In most states a new partner is liable for only those debts of the firm 
which were contracted after his becoming a member of the firm, though he may 
by agreement render himself liable for the firm's previous obligations. A 
retiring partner is liable for all debts of the firm contracted while he was 
a member, and for all debts contracted after his retirement, with persons 
who have previously dealt with the firm and have not had actual notice 
of his retirement, and with all new creditors who have not had either 
actual or constructive notice of his retirement. 

6. Who should give notice of dissolution? 

Ans. When the partnership is terminated by mutual agreement, each 
of the partners should give notice, and where only one of the partners 
retire, it is to his interest to give notice of dissolution. A dormant or secret 
partner need not give notice of dissolution except to those who actually 
knew of his relation to the firm as a partner. 

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COMMERCIAL LAW 

7. In what order are partnership assets distributed when divided by 
the court? 

Ans. When the courts wind up a partnership and distribute its assets, 
they will apply them first to the payment of the partnership debts, as 
creditors of the firm have priority over creditors of the individual partners. 
If the firm assets are not sufficient to satisfy the firm's debts, the creditors 
of the firm will then share proportionately with the individual partner's 
creditors in the assets of such individual partners. 

8. Is contribution to the capital necessary to constitute one a 
partner? 

Ans. No. Frequently partnerships exist where one partner furnishes 
the capital and another the services or experience. Common ownership of 
the profits and not of the capital stock is the test of partnership. 

9. May one be liable as a partner when no partnership exists? 

Ans. Where one holds himself out as a partner or allows others to 
hold him out as a partner without denying his membership in the firm, he 
will be liable as a partner. This occurs most frequently in the case of 
a member who has retired from the firm, and fails to give notice of his 
retirement, and permits the business to continue under the old name. 

10. What are the two principal classes of partnerships? 

Ans. General partnerships and special partnerships. In a general 
partnership the members of the firm associate to carry on some business 
and do all things in common relating to that business. Special partner- 
ships are frequently formed to do some particular special act or transaction 
in common. 

11. What are the two principal classes of partners? 

Ans. An ostensible partner is one who is held out generally as a. 
partner. He shares in the profits and losses and is known generally as 
a partner. A silent or dormant partner is one whose connection with 
the firm is unknown. The latter is one who also takes no active part in 
the business of the firm. An active partner as distinguished from a dor- 
mant partner is one who does take an active part in the firm's business. 
A silent partner is also one whose connection with the firm is unknown 
and who exercises none of the rights of a partner except to share in the 
partnership profits. A nominal partner is one who is apparently a partner 
but is not really one. He may have his name in the firm, but exercises 
none of the rights of a partner. 

12. Who may become partners? 

Ans. In general, all who may enter into contracts may become part- 
ners. An infant may become a partner, though he may at any time prior 
to majority, or ratification after majority, rescind his partnership contract. 
Generally, corporations may not be partners, though in some cases it is per- 
mitted by the corporation's charter. 

301 



C. P. A. QUESTIONS AND ANSWERS 

13. How many persons may become partners? 

Ans. There must manifestly be at least two persons in a partnership, 
and in the absence of statute prescribing the number, there is no limit to the 
number of persons who may associate as partners. 

14. May a partnership own real estate? 

Ans. No. The real estate may be in the names of the several part- 
ners but not in the name of the firm. "Jones & Smith" cannot hold real 
estate, but John Jones and Robert Smith may hold real estate as co-owners, 
purchased with partnership funds. 

15. What becomes of the capital of a partnership upon dissolution 
of the firm? 

Ans. Unless required to pay debts, and unless the articles of copart- 
nership provide for its distribution, the capital of a partnership upon dis- 
solution is given back to the individual members of the firm, in proportion 
to the amount each contributed before any profits are divided, and a part- 
ner contributing nothing to the capital is entitled to no part of it upon its 
distribution. 

16. How is distribution of the capital made when there has been a 
loss? 

. Ans. When the partnership business has been conducted at a loss, such 
loss is apportioned to the partners in proportion to their individual contribu- 
tions to the capital, before it is divided. 

17. Who is entitled to the use of the firm name after the dissolution 
of the partnership? 

Ans. If the name is a fictitious name, either party, in the absence of 
any agreement with respect thereto, may use the firm name after dissolu- 
tion, but if the name is not fictitious and contains the names of the part- 
ners, neither partner would have the right to use the name of the firm 
in such a way as to lead the public to believe that the original firm still con- 
tinued. 

18. If the firm is dissolved by the death of one of the partners, who is 
entitled to the firm name? 

Ans. When one of the partners dies, some courts have held that 
the firm name belongs to the surviving partners, but others have held that 
it is an asset of the partnership and should be treated just as other assets 
are. 

19. Where should the partnership books be kept? 

Ans. All partnership books of account should be kept at the principal 
office of the firm. No member of the firm has a right to keep the firm's 
books at his individual residence or place of business unless there has been 
an agreement to that effect. 

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COMMERCIAL LAW 

20. Can a partner recover from the firm for services rendered to it? 
Ans. Each partner is presumed to use his best efforts to further the 

firm's business and cannot recover for services rendered unless there has 
been an agreement that he shall be compensated therefor. He must be 
satisfied with his share of the profits, though the partners may, of course, 
agree upon certain compensation for certain services. 

21. When a partnership is dissolved, what powers, if any, remain 
with the members of the partnership? 

Ans. Upon the dissolution of a partnership, the powers of the mem- 
bers of the firm to make new contracts or incur new obligations ceases, 
but they are still vested with authority to do all things necessary to wind 
up the business. They may collect moneys owing to the firm, pay its 
debts, bring and defend suits, complete unfilled contracts, make compro- 
mises, sell property, and do all things necessary to close up the partnership 
business. 

22. What is the distinction between partners and co-owners? 

Ans. Co-owners are not agents for each other ; either may transfer 
his interest so as to put his purchaser in his place; they do not necessarily 
share in profits and losses, and their relation may arise without there being 
an agreement. 

23. What is a limited partnership? 

Ans. A limited partnership is a partnership in which the liability of 
some of the partners is limited to a fixed amount, while that of the others 
remains the same as in an ordinary partnership. Limited partnerships are 
created by statute and the terms under which they are created and do busi- 
ness are defined by the statutes of the state where they are permitted to 
exist. A limited partnership must not be confounded with a joint stock 
company or a partnership association limited, which partake more of the 
character of corporations than they do of ordinary partnerships. 

24. How is a limited partnership formed? 

Ans. Limited partnerships exist only by virtue of statutes authorizing 
them and such statutes must be closely followed. They usually provide 
that a certificate be executed by the partners published for a certain period, 
and filed with the Secretary of State, and with the County Clerk of the 
County where the partnership has its principal office. Such certificate 
must usually contain the names of the partners with their residence ; indi- 
cate who are general partners and who are special partners; give the name 
under which the firm 'is to do business, which name must in some states 
contain the names of all the general partners with the addition of the words 
"and Co." or "Limited" ; give the amount of capital contributed by special 
partners ; state the kind of business for which the company is organized ; and 
when it is to begin and terminate. 

25. Has a special partner prior right over other partners or over 
creditors in distribution of the capital surplus on the winding up of a firm? 

Ans. A special partner has no prior right over the claims of the 
creditors of a firm, nor has he a prior right over the claims of other 
partners unless there has been an agreement' to that effect. 

303 



C. P. A. QUESTIONS AND ANSWERS 

VARIOUS BUSINESS LAW PROBLEMS. 

1. What is a Bill of Sale? 

Ans. A Bill of Sale is a written instrument, generally under seal, 



which evidences the transfer of title to personal property. 






2. If under a contract of sale of goods, the seller delivers them to a 
common carrier for transportation to the buyer, who would bear the loss 
if the goods were injured in transit, the carrier not being at fault? 

Ans. If the carrier is mentioned in the agreement or selected by the 
buyer, the title to goods shipped passes upon delivery to the carrier and 
in such case the risk of transit is the buyer's and not the seller's, and if 
the goods are injured without fault of the carrier, the loss will be upon the 
buyer. 

3. What is a bailment? 

Ans. Bailment is the delivery of goods to some other person, under 
a contract that the purpose for which the goods are delivered will be 
executed and that the goods shall then be returned to the owner or dealt 
with according to his direction. The one who delivers the goods for the 
purpose of bailment is called a bailor and the one with whom goods are 
bailed is called a bailee. 

4. What is a pledge? 

Ans. A pledge is a bailment delivered by a debtor under an agree- 
ment that it shall be held as security for the debt, and returned when the 
debt is paid. 

5. What is the extent of a common carrier's liability? 

Ans. A common carrier is liable as an insurer for all goods intrusted 
to his care and will be responsible for their loss or damage unless such loss 
or damage is the result of an Act of God or the negligence of the shipper, 
or the inherent quality of the goods or some exercise of public authority. 

6. What is a bill of lading? 

Ans. A bill of lading is a receipt given to the shipper by a carrier of 
goods, showing that the goods mentioned are to be transferred to the consignee 
under the agreement contained therein. 

7. What is a chattel mortgage? 

Ans. A chattel mortgage is a mortgage of personal property. It is 
a conveyance of personal property to secure a debt, absolute in form, but 
conditional in fact, which vests the title in the mortgagee, subject to be 
defeated by a payment of the debt which it secures. 

8. What is the necessity for the renewal of a chattel mortgage? 

Ans. The statutes of many of the states render a chattel mortgage 
invalid unless it is renewed at the expiration of a certain time, usually one 
year, or unless a new affidavit is made within a certain period, usually 
thirty days, preceding the expiration of the mortgage. 

304 



COMMERCIAL LAW 

9. What is meant by the right of redemption? ■ 

Ans. The right of redemption is the right which the mortgagor has 
to secure the release of the property mortgaged by the payment of the 
debt. The right of redemption may be sold or assigned by the mortgagor 
and constitutes the mortgagor's equity of redemption. 

10. What is a guaranty? 

Ans. A guaranty is a contract whereby one person promises to 
answer for the debt, default, or miscarriage of another, if the other does 
not. 

11. What is the distinction between a guaranty and an indorsement? 

Ans. Both guaranty and indorsements are conditional promises to 
answer for the debt, default or miscarriage of another, but the liability of 
a guarantor is broader than the liability of an indorser. An indorser is 
relieved from liability by failure of prompt presentment, and due notice of 
dishonor ; a guarantor is relieved by such failure only when he has suffered 
loss thereby. 

12. What is the distinction between a surety and an indorser? 

Ans. A surety's obligation is the same as that of his principal, and 
he is not entitled to notice of default, while an indorser is relieved by 
failure to make prompt presentment and to give due notice of dishonor. A 
surety upon a promissory note stands in the same relation as does an ac- 
commodation maker. 

13. What is real property? 

Ans. Real property includes all things that are embraced in the 
terms, lands, tenements and hereditaments. 

14. What is real estate? 

Ans. Real estate is the quantity of interest which a person has in real 
property. .The term real estate is now commonly used interchangeably 
with the term real property. 

15. What is an abstract of title? 

Ans. An abstract of title is a summary of all of the recorded docu- 
ments and facts of record which affect the title to a certain piece of real 
estate. 

16. What is a deed? 

Ans. The word deed as commonly used in connection' with real estate 
means a written instrument conveying title to real estate. 

17. Must a deed be witnessed? 

Ans. Every deed must be witnessed before it can be recorded. Some 
states require but one witness to a deed while others require two. 

18. When does a deed take effect? 

Ans. A deed takes effect only upon delivery and acceptance. 

19. What is a mortgage? 

Ans. A mortgage is a conveyance of property as security for a debt. 

305 



C. P. A. QUESTIONS AND ANSWERS 

20. How is a mortgage executed? 

Ans. A mortgage of real estate is executed in the same manner as is 
a deed. It must be signed, sealed, acknowledged, and delivered. 

21. When must a note be presented in order to hold the endorsers 
liable? 

Ans. It must be presented on the day it is due, either at the bank 
where it is payable or at the place of business of the maker, or at his resi- 
dence within a reasonable hour on that day. 

22. When should presentment be made of a bill or note which falls 
due on Sunday or upon a legal holiday? 

Ans. Where days of grace are allowed, presentment of a bill or" 
note which matures on Sunday or a legal holiday must be made upon the 
day preceding the last day of grace. Where there is no grace, presentment 
of such bill may be made upon the first day following the Sunday or holi- 
day upon which the instrument matures. 

23. When does the statute of limitations begin to run upon a demand 
note? 

Ans. A demand note in the great majority of states is due as soon 
as made, and a right of action accrues immediately, thus causing the 
statute to run from the date of the note. This is true even if the note bears 
interest. 

24. Will the certification of a forged check make the bank liable? 

Ans. If the signature is forged, the certification of the check binds the 
bank, but certification of a check will not make the bank liable if the body 
of the check is forged or the check raised. Certification binds the bank only 
as to those things within its knowledge, and it is presumed to know the 
signature of its depositors. But genuineness of the indorsers' signatures 
is not guaranteed by certification. 

25. Is the giving of a note for the amount due a payment? 

Ans. The execution and acceptance of a note or draft is not a payment 
in performance of a contract to pay until the note is paid, unless by agree- 
ment the note or draft is accepted in discharge of the debt. 

26. When the note is given and accepted in absolute satisfaction of 
the sum due, what is its effect? 

Ans. It discharges the debt and if the note is not paid, no suit can be 
brought upon the original debt, but the creditor must sue upon the note. 

27. If the note is not taken in absolute satisfaction of the debt, what 
is its effect? 

Ans. The debt is not discharged until the note is paid. If the note 
is not paid, the creditor may sue upon the note, or he may sue upon the 
original indebtedness. 

306 



COMMERCIAL LAW 

28. What is meant by accommodation paper? 

Ans. Accommodation paper is a bill or note which is made, accepted, 
or indorsed by one party for another without consideration, but merely for 
the purpose of loaning- his credit to the party accommodated. 

29. What is an account stated? 

Ans. An account stated in an agreement between two parties who 
have had previous dealing, as to the amount owing by each to the other, 
and as to the balance, due, coupled with an express or implied promise to 
pay such balance. 

30. What is the Statute of Limitations? 

Ans. Formerly a right under a contract or a debt never lapsed by 
the expiration of time, but nearly everywhere it is now provided by statute 
that such right or debt shall be barred after the expiration of a certain 
time, so that no suit can he brought after such interval to recover on the 
debt. Such statutes are known as statutes of limitations. 

31. When does the statute of limitations begin to run? 

Ans. The statute of limitations begins to run from the time a right 
of action accrues upon the contract ; that is, from the time when the party 
may begin suit upon the debt or contract. 

32. . What terminates the running of the statute of limitations? 

Ans. When a suit is brought upon a debt, the running of the statute 
is terminated, and the statute begins to run again from the time of render- 
ing the judgment. A new promise or an acknowledgment of the debt also 
operates to stop the running of the statute and it begins to run anew from 
the time of making the new promise or acknowledgment. A part payment 
on the debt has the same effect as a new promise or acknowledgment with 
respect to the running of the statute. The payment begins to run anew 
from the time of the last interest payment. 

33. A Sends to B, in settlement of an undisputed account amounting to 
$1,000, a check for $850. bearing the inscription "In full payment of account." 
B deposits the check in his bank for collection but credits A's account only with 
$850. Is A liable for the balance? If so, why? If not, why not? 

Ans. A is liable for the balance unless there are some further factors 
entering into the case but not specified in the question. No consideration is 
given for the remaining $150, and endorsement of a check is evidence of the 
receipt of the money represented by that check, but a receipt is not conclusive 
evidence of full payment, neither is a part payment in cash of a stated debt 
sufficient to establish a full discharge of the debt. 

If B set up a counter-claim for the difference at the time of sending the 
check, and A deposited the check without disputing the counter-claim within a 
reasonable length of time, B would not be held liable for the balance because it 
would be held that A accepted the check and counter-claim in full accord and 
satisfaction of the debt. 

307 



C. P. A. QUESTIONS AND ANSWERS 

34. What is a -negotiable instrument? 

Ans. An instrument is negotiable when delivery, or indorsement and 
delivery will transfer title to it and the property it represents from one 
person to another. 

35. What are the provisions of the Negotiable Instruments Law in 
the case of an instrument signed by one as agent without authority to bind 
his alleged principal? 

Ans. Under the law, one who signs as agent for an alleged principal 
is not exempt from liability thereon, by the mere addition of words describ- 
ing him as agent or as filling a representative character. 

36. What words are words of negotiability? 

Ans. Any words which express the maker's intention that the bill or 
note may be transferred by indorsement or "delivery are words of negotia- 
bility. The most customary words of negotiability are the words "or 
order" following the name of the payee. But the following orders and 
promises contain words of negotiability: "Pay to the order of," "I promise 
to pay to the order of," "Pay to bearer," "I promise to pay to bearer." 

37. What are considered material alterations under the Negotiable 
Instruments Law? 

Ans. Material alterations are any alterations which change the date ; 
the sum payable, either for principal or interest ; the time or place of pay- 
ment; the number or the relations of the parties; the medium of currency 
in which payment is to be made; or which add a place of payment where 
no place of payment is specified; or which alter the effect of the instru- 
ment in any respect. 

38. What is the "Sale of Goods in Bulk Act" ? 

Ans. The "Sale of Goods in Bulk Act" is a statute in force in a 
number of states, including Massachusetts, Connecticut, Tennessee, Wash- 
ington, Michigan, Wisconsin, Maryland and New York, the object of which 
is to protect creditors against fraudulent conveyances of goods in bulk by 
debtors. The act varies in some of its provisions in the various states, but 
the chief feature in the act as it is in force in all of the states enumerated 
is that sales of goods in bulk are declared void as to creditors unless such 
creditors shall have had certain notice, usually five days, of such proposed 
sale, before it is made. 

39. What is meant by the right of stoppage in transit? 

Ans. It is the right a seller of goods may have to stop the carrier to 
whom he has delivered goods consigned to a purchaser from delivering 
the goods, and to get possession of them again for the purpose of enforcing 
his lien upon them for his purchase price. 

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COMMERCIAL LAW 

40. What is a receiver? 

Ans. A receiver is an officer whom the court appoints in certain cases 
to act for it in taking charge of property to prevent its waste or destruc- 
tion, collect the proceeds and distribute them among the persons entitled 
to them. 

41. What is an assignment for the benefit of creditors? 

Ans. An assignment for the benefit of creditors is a transfer by a 
debtor of all of his property to some person or corporation in trust for his 
creditors, with authority to convert the property into money and divide the 
proceeds among the creditors. 



42. What is bankruptcy 



? 



Ans. Bankruptcy is a state of insolvency or inability to pay one's 
debts. 

43. What is a bankrupt? 

Ans. A bankrupt is one who is unable to pay his debts. 

44. What is insolvency? 

Ans. Insolvency in its popular meaning is synonymous with bank- 
ruptcy. 

45. What is the object in passing bankruptcy laws? 

Ans. Bankruptcy laws are passed for the purpose of securing to 
' creditors an equal and fair distribution of the bankrupt's property and to 
enable unfortunate bankrupts whose bankruptcy is not fraudulent to begin 
business anew. 

46. When is a person insolvent ? 

Ans. A person is insolvent whenever the aggregate. of his property, 
exclusive of any property which he may have conveyed, transferred, con- 
cealed, or removed, or permitted to be concealed or removed with intent to 
defraud, hinder, or delay his creditors, shall not at a fair valuation be suffi- 
cient in amount to pay his debts. 

47. What is meant by a discharge in bankruptcy? 

Ans. A discharge in bankruptcy is the release of the bankrupt from 
all the debts that are provable except those that are excepted. 

48. What is a trustee in bankruptcy? 

Ans. A trustee in bankruptcy is the person who is intrusted with duty 
of collecting, administering and distributing the estate of the bankrupt 
among his creditors under the direction of the court. 

49. What are the duties of a trustee in bankruptcy? 

Ans. Trustees in bankruptcy are required to pay over to the estates 
under their control all interest received by them upon property of such 
estates ; to collect and reduce to money the property of the estates for 
which they are trustees, under the direction of the court, and to cloee up 

309 



C. P. A. QUESTIONS AND ANSWERS 

the estates as expeditiously as is compatible with the best interests of the 
parties in interest ; to deposit all moneys received by them in one of the 
designated depositaries; to disburse money only by check or draft on the 
depositaries where it has been deposited ; to furnish such information con- 
cerning the estates and of their administration as may be requested by the 
parties interested ; to keep regular accounts showing all moneys received 
and from what sources and all moneys paid out and upon what accounts; 
to lay before the final meeting of creditors detailed statements of the ad- 
ministration of the estate; to make final reports and file final account 
fifteen days before the final meeting of creditors; to pay dividends within 
ten days after they have been declared by the referee ; to report to the court 
in writing the condition of the estate and the moneys on hand and such 
other details as may be required within one month after appointment and 
every two months thereafter unless otherwise ordered ; to set aside the 
bankrupt's exceptions and report the items and their value as soon as 
practicable. 

50. Having come to an adjustment of certain accounts between them, 
Howard Pine gave unto Samuel Barnes his note for $577.19. The time of 
the settlement was January, 1912. After the note had been signed by Pine 
and delivered to Barnes and the parties had separated, Barnes observed 
that the note was written upon an old printed form of a note on which 
there had been printed as part of the date, the figures "190." In filling in 
the note,- the figure "2" had been added so that the note apparently read 
"January, 1902." To correct this, Barnes took his pen and made a figure 
one through the cypher. What effect had this upon the note, if any? 

Ans. The Negotiable Instruments Act provides that where a nego- 
tiable instrument is materially altered without the assent of all parties 
thereon, it is avoided, except as against a party who has himself made, 
authorized or assented to the alteration and subsequent indorsers. But 
when an instrument has been materially altered and is in the hands of a 
holder in due course, not a party to the alteration he may enforce payment 
thereof according to its original tenor. A change in date is a material 
alteration, but as the change of date on this note was not an alteration, but 
the correction of a mistake, and if it could be proved that the change was 
merely to make the note conform to the original intention of the parties, 
it would not avoid the note, and it would be still enforceable against the 
maker. 



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